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DYNCORP INTERNATIONAL INC. TABLE OF CONTENTS
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
| (Mark One) | ||
ý | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the quarterly period ended June 29, 2007 | ||
or | ||
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |
For the transition period from to | ||
Commission File Number: 001-32869 | ||
(Mark One)
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 29, 2006
or
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 001-32869
DYNCORP INTERNATIONAL INC.
(Exact name of registrant as specified in its charter)
Delaware | 01-0824791 | |||
(State or other jurisdiction of |
| |||
| (I.R.S. Employer |
3190 Fairview Park Drive, Suite 700, Falls Church, Virginia 22042
(571) 722-0210
(Address, including zip code, and telephone number, including area code,
of registrant’sregistrant's principal executive offices)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes xý No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated"accelerated filer and large accelerated filer”filer" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o | Accelerated filer o | Non-accelerated filer ý |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No xý
As of February 12,August 1, 2007, the registrant had 57,000,000 shares of its Class A common stock, par value $0.01 per share, outstanding.
DYNCORP INTERNATIONAL INC. PART ( December 29, March 31, (Unaudited) Assets Current assets: Cash and cash equivalents $ 55,336 $ 20,573 Receivables, net of allowances for doubtful accounts of $2,728 and $8,479 at December 29, 2006 and March 31, 2006, respectively 446,735 437,947 Other receivables 1,893 2,248 Prepaid expenses and other current assets 49,495 43,733 Deferred tax asset 7,491 795 Total current assets 560,950 505,296 Property and equipment at cost, less accumulated depreciation of $2,649 and $1,296 at December 29, 2006 and March 31, 2006, respectively 11,238 8,769 Other assets: Goodwill 420,180 420,180 Tradename 18,318 18,318 Customer-related intangibles, net of accumulated amortization of $72,750 and $43,471 at December 29, 2006 and March 31, 2006, respectively 217,631 246,910 Deferred financing costs, net of accumulated amortization of $5,428 and $3,261 at December 29, 2006 and March 31, 2006, respectively 14,955 17,469 Other intangibles, net of accumulated amortization of $6,450 and $3,671 at December 29, 2006 and March 31, 2006, respectively 6,743 7,453 Deferred income taxes 12,938 11,518 Other assets 1,918 3,176 Total other assets 692,683 725,024 Total assets $ 1,264,871 $ 1,239,089 Liabilities and Shareholders’ Equity Current liabilities: Current portion of long-term debt $ 3,450 $ 2,588 Current portion of other long-term liabilities 301 — Accounts payable and accrued expenses 125,936 143,668 Accrued payroll and employee costs 78,876 65,586 Other accrued liabilities 55,240 33,845 Income taxes payable 7,648 8,280 Total current liabilities 271,451 253,967 Long-term debt—less current portion 628,407 658,963 Other long-term liabilities 5,742 — Shares subject to mandatory redemption Series A preferred stock, stated value $195,550; 350,000 shares authorized; 190,550 shares issued and outstanding; redemption value of $219,821 at March 31, 2006; and no shares outstanding at December 29, 2006 — 219,821 Commitments and contingencies Shareholders’ equity: Preferred stock, $0.01 par value—50,000 shares authorized; no shares outstanding — — Common stock, $0.01 par value—232,000 shares and 32,000 shares authorized; 57,000 shares and 32,000 shares issued and outstanding at December 29, 2006 and March 31, 2006, respectively 570 320 Additional paid-in capital 350,832 102,097 Retained earnings 8,097 4,139 Accumulated other comprehensive loss (228 ) (218 ) Total shareholders’ equity 359,271 106,338 Total liabilities and shareholders’ equity $ 1,264,871 $ 1,239,089 See notes to condensed consolidated financial statements. ( For the Three For the Nine Dec. 29, Dec. 30, Dec. 29, Dec. 30, (unaudited) (unaudited) Revenues $ 517,539 $ 553,561 $ 1,529,944 $ 1,418,245 Costs of services (excluding depreciation and amortization disclosed below) 449,680 498,482 1,343,447 1,262,074 Selling, general and administrative 24,949 21,013 82,906 59,874 Depreciation and amortization 10,656 10,563 33,005 32,763 Operating income 32,254 23,503 70,586 63,534 Other expense (income): Interest expense 14,554 14,595 44,057 42,278 Interest on mandatory redeemable shares — 5,903 3,002 14,149 Loss on debt extinguishment and preferred stock — — 9,201 — (Income) loss from joint ventures (1,000 ) 40 (1,323 ) 181 Interest income (534 ) (112 ) (1,094 ) (166 ) Income before income taxes 19,234 3,077 16,743 7,092 Provision for income taxes 7,640 1,444 8,646 5,607 Net income $ 11,594 $ 1,633 $ 8,097 $ 1,485 Earnings per common share: Basic and diluted $ 0.20 $ 0.05 $ 0.15 $ 0.05 Average common shares outstanding: Basic and diluted 57,000 32,000 53,978 32,000 See notes to condensed consolidated financial statements. DYNCORP INTERNATIONAL INC. For the Nine Months Ended Dec. 29, Dec. 30, (unaudited) Cash flows from operating activities: Net income $ 8,097 $ 1,485 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 34,654 33,390 Premium paid on redemption of senior subordinated notes 2,657 — Premium paid on redemption of preferred stock 5,717 — Deferred financing cost amortization 3,154 2,141 Non-cash interest expense (redeemable preferred stock dividend) — 14,149 (Recovery) provision for losses on accounts receivable (4,679 ) 683 Income from equity joint ventures (951 ) 81 Deferred income taxes (8,116 ) (6,187 ) Compensation expense related to Class B equity participation 1,471 998 Changes in current assets and liabilities: Accounts receivable (3,754 ) 30,862 Prepaid expenses and other current assets (166 ) (3,058 ) Accounts payable and other accrued liabilities 12,008 (23,283 ) Redeemable preferred stock dividend (3,695 ) — Income taxes payable (610 ) 2,901 Net cash provided by operating activities 45,787 54,162 Cash flows from investing activities: Purchase of property and equipment (3,679 ) (1,338 ) Proceeds from sale of property and equipment — 11 Payment for computer software upgrade (2,068 ) (2,153 ) Other assets 374 (58 ) Net cash used in investing activities (5,373 ) (3,538 ) Cash flows from financing activities: Proceeds from equity offering, net 346,446 — Redemption of preferred stock (216,126 ) — Special dividend (100,000 ) — Premium paid on redemption of senior subordinated notes (2,657 ) — Premium paid on redemption of preferred stock (5,717 ) — Payment of deferred financing costs (640 ) (1,225 ) Borrowings related to prepaid insurance, net 2,737 — Payment on acquisition debt — (2,587 ) Payments on credit facility (29,694 ) (35,000 ) Purchase of interest rate cap — (483 ) Net cash used in financing activities (5,651 ) (39,295 ) Net increase in cash and cash equivalents 34,763 11,329 Cash and cash equivalents, beginning of period 20,573 13,474 Cash and cash equivalents, end of period $ 55,336 $ 24,803 See notes to condensed consolidated financial statements. Common Stock Additional Retained Accumulated Shares Amount Capital Earnings Loss Total Balance at March 31, 2006 32,000 $ 320 $ 102,097 $ 4,139 $ (218 ) $ 106,338 Comprehensive income: Net income 8,097 — 8,097 Interest rate cap — (41 ) (41 ) Currency translation adjustment — 31 31 Comprehensive income 8,097 (10 ) 8,087 Equity offering, net 25,000 250 343,125 — — 343,375 Mandatory dividend on Class B common stock — — (95,861 ) (4,139 ) — (100,000 ) Deferred compensation expense on Class B equity of DIV Holding LLC — — 1,471 — — 1,471 Balance at December 29, 2006 57,000 $ 570 $ 350,832 $ 8,097 $ (228 ) $ 359,271 Note Basis of DynCorp International Inc., through its subsidiaries, The condensed consolidated financial statements include the accounts of the Company and its domestic and foreign subsidiaries. These condensed consolidated financial statements have been prepared by the Company, without audit, pursuant to Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. However, the Company believes that all disclosures are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the In the opinion of management, all adjustments necessary to fairly present the The Company reports its results on a 52/53 week fiscal year with the fiscal year ending on the Friday closest to March Income Taxes, Deferred Taxes, Tax Valuation Allowances and Tax Reserves At the beginning of fiscal 2008, we adopted Financial Interpretation ("FIN") No. 48, "Accounting for Uncertainty in Income Taxes – an Interpretation of FASB Statement No. 109." FIN No. 48 addresses the determination of whether tax benefits claimed or expected to be claimed on a Other Accounting Policies Other significant accounting policies, for which no significant changes have occurred in the first quarter ended June 29, 2007, are detailed in Note 1 of our 2007 Annual Report on Form 10-K filed with the SEC on June 18, 2007. Pronouncements Implemented In In March 2006, the FASB issued SFAS No. 156, "Accounting for Servicing of Financial Assets – an amendment of Statement No. 140." SFAS No. 156 clarifies when an obligation to service financial assets should be separately recognized as a servicing asset or a servicing liability and requires that a separately recognized servicing asset or servicing liability be initially measured at fair value and permits an entity with a separately recognized servicing asset or servicing liability to choose either the amortization method or fair value method for subsequent measurement. SFAS No. 156 is effective for all separately recognized servicing assets and liabilities acquired or issued after the beginning of an entity's fiscal year that begins after September 15, 2006. Our adoption of SFAS No. 156 in the first quarter of fiscal year 2008 had no impact on our consolidated financial condition or results of operations. In July 2006, the FASB issued FIN No. 48, which clarifies the accounting for uncertainty in income taxes recognized in an enterprise's financial statements in accordance with SFAS No. 109, "Accounting for Income Taxes." The provisions of FIN No. 48 are effective for fiscal years beginning after December 15, 2006. The impact on our consolidated financial condition and results of operations of adopting FIN No. 48 in the first quarter of fiscal 2008 is presented in Note 4. In September 2006, the FASB issued SFAS No. 157, In Dec. 29, March 31, Billed $ 213,256 $ 188,458 Unbilled 233,479 248,994 Unbilled—related party — 495 $ 446,735 $ 437,947 Note December 29, 2006 Weighted- Gross Accumulated Net Customer-related intangible assets 8.5 $ 290,381 $ (72,750 ) $ 217,631 Deferred financing cost 7.0 20,383 (5,428 ) 14,955 Other 4.2 13,193 (6,450 ) 6,743 $ 323,957 $ (84,628 ) $ 239,329 March 31, 2006 Weighted- Gross Accumulated Net Customer-related intangible assets 8.5 $ 290,381 $ (43,471 ) $ 246,910 Deferred financing cost 7.1 20,730 (3,261 ) 17,469 Other 4.1 11,124 (3,671 ) 7,453 $ 322,235 $ (50,403 ) $ 271,832 Dec. 29, March 31, Other assets: Investment in affiliates $ 1,547 $ 911 Deferred offering costs — 1,940 Other 371 325 $ 1,918 $ 3,176 9.5% Senior Senior Secured Notes Term Loan Revolver Total Balance at March 31, 2006 $ 320,000 $ 341,551 $ — $ 661,551 Payments (27,968 ) (1,726 ) — (29,694 ) Balance at December 29, 2006 $ 292,032 $ 339,825 $ — $ 631,857 FY 2007 FY 2008 FY 2009 FY 2010 FY 2011 $658 $2,065 $1,195 $ 567 $120 Basic earnings per share is based on the weighted average number of common shares outstanding during each period. Diluted earnings per share is based on the weighted average number of common shares outstanding and the effect of all dilutive common stock equivalents during each period. The Company did not have any anti-dilutive For the Three For the Nine Dec. 29, Dec. 30, Dec. 29, Dec. 30, Basic and dilutive EPS: Numerator: Net income $ 11,594 $ 1,633 $ 8,097 $ 1,485 Denominator: Average common shares—basic and dilutive 57,000 32,000 53,978 32,000 Basic and dilutive EPS $ 0.20 $ 0.05 $ 0.15 $ 0.05 Note The following tables provide information about changes relating to intangible assets: Amortization expense for customer-related and other intangibles was $10.0 million for the first quarter ended June 29, 2007 and for the first quarter ended June 30, 2006. Note 4 – Income Taxes We adopted the provisions of FIN No. 48 at the beginning of fiscal 2008. FIN No. 48 addresses the determination of whether tax benefits claimed or expected to be claimed on a tax return should be recorded in the financial statements. FIN No. 48 also provides guidance on derecognition, classification, interest and penalties on income taxes, accounting in interim periods and requires increased disclosures. The cumulative effect of adopting FIN No. 48, net of adjustments to deferred tax assets, was an increase to liabilities and a decrease to opening retained earnings of $1.4 million at March 31, 2007. Upon adoption, the estimated value of the Company's uncertain tax positions is a liability of $5.9 million resulting from unrecognized net tax benefits, including penalties and interest. The liability for uncertain tax positions is carried in other liabilities in the condensed consolidated balance sheet as of June 29, 2007, and approximately $1.3 million is reported as long-term. At March 31, 2007, the amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate was $1.1 million. It is reasonably possible that the total amount of unrecognized tax benefits could decrease approximately $3.0 million to $4.0 million primarily due to items that were not fixed and determinable as of March 31, 2007 and for which economic performance is expected to occur in the next 12 months. The Company recognizes accrued interest related to uncertain tax positions in interest expense. The balance of accrued interest recorded on the balance sheet at March 31, 2007 was approximately $0.3 million. The Company recognizes accrued penalties related to uncertain tax positions in income tax expense. The balance of accrued penalties recorded on the balance sheet at March 31, 2007 was approximately $0.2 million. The balance of the reserves for uncertain tax positions, including interest and penalties, did not change significantly during the first quarter of fiscal 2008. The Company and its subsidiaries file income tax returns in U.S. federal and state jurisdictions and in various foreign jurisdictions. The statute of limitations is open for U.S. federal and state income tax examinations for the Company's fiscal year 2005 forward and, with few exceptions, foreign income tax examinations for the calendar year 2003 forward. Note 5 – Accounts Receivable Accounts Receivable, net consisted of the following: Unbilled receivables at June 29, 2007 and March 30, 2007 include $40.9 million and $38.3 million, respectively, related to costs incurred on projects for which the Company has been requested by the customer to begin work under a new contract or extend work under an existing contract, and for which formal contracts or contract modifications have not been executed at the end of the period. The balance of unbilled receivables consists of costs and fees billable on contract completion or other specified events, the majority of which is expected to be billed and collected within one year. Note 6 – Long-Term Debt Long-term debt consisted of the following: For a description of our indebtedness, see Note 8,Long-term Debt, to the consolidated financial statements in our Annual Report on Form 10-K filed with the SEC on June 18, 2007. The Company is required, under certain circumstances as defined in its credit agreement, to make a payment to reduce the outstanding principal of the term loans in the following year (the "Excess Cash Flow Payment"). Such payments are due at the end of the first quarter of the following fiscal year. As a result, the Company made payments of approximately $34.6 million on the term loans during the first quarter of fiscal 2008 related to the Excess Cash Flow Payment for the fiscal year ended March 30, 2007. The Excess Cash Flow Payment is an annual requirement under the credit agreement, and the Company cannot estimate with certainty what the Excess Cash Flow Payment will be, if any, for the fiscal year ended March 28, 2008. At June 29, 2007, availability under the revolving credit line for additional borrowings was approximately $73.9 million (which gives effect to approximately $29.1 million of outstanding letters of credit, which reduced the Company's availability by that amount). The credit agreement requires an unused line fee equal to 0.5% per annum, payable quarterly in arrears, of the unused portion of the revolving credit facility. Note 7 – Commitments Commitments The Company has operating leases for the use of real estate and certain property and equipment. Operating leases are Fiscal Year Real Estate Equipment 2007 $ 951 $ 211 2008 3,465 751 2009 2,432 55 2010 2,186 — 2011 2,186 — Thereafter 12,023 — $ 23,243 $ 1,017 General Legal Matters The Company and its subsidiaries and affiliates are involved in various lawsuits and claims that have arisen in the normal course of business. In most cases, the Company has denied, or believes it has a basis to deny any liability. The Company has recorded its best estimate of the aggregate liability that will result from these matters and believes that these matters are adequately reserved. While it is not possible to predict with certainty the outcome of litigation and other matters discussed below, it is the opinion of the On April 24, 2007, March 14, 2007, December 29, 2006 On May 29, 2003, Gloria Longest, a former accounting manager for the Company, filed suit against DynCorp International LLC under the False Claims Act and the Florida Whistleblower Statute, alleging that On September 11, 2001, a class action lawsuit seeking $100.0 million on behalf of approximately 10,000 citizens of Ecuador was filed against DynCorp International LLC and several of its former affiliates in the U.S. District Court for the District of Columbia. The action alleges personal injury, property damage and wrongful death as a consequence of the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador. The spraying operations were and continue to be conducted under a DoS contract in cooperation with the Colombian government. The terms of the DoS contract provide that the DoS will indemnify DynCorp International LLC against third-party liabilities arising out of the contract, subject to available funding. The Company is U.S. Government Investigations We also are occasionally the subject of investigations by various agencies of the U.S. government. Such investigations, whether related to our U.S. government contracts or conducted for other reasons, could result in administrative, civil or criminal liabilities, including repayments, fines or penalties being imposed upon us, or could lead to suspension or debarment from future U.S. government contracting. On January 30, 2007, the Special Inspector General for Iraq Reconstruction, or SIGIR, issued a report on one of our task orders concerning the Iraqi Police Training program. Among other items, the report raises questions about our work to establish a residential camp in Baghdad to house training personnel. Specifically, the SIGIR report recommends that DoS seek reimbursement from us of $4.2 million paid by the DoS for work that the SIGIR maintains was not contractually authorized. In addition, the SIGIR report recommends that the DoS request the Defense Contract Audit Agency ("DCAA") to review two of our invoices totaling $19.1 million. On June 28, 2007, we received from the DoS contracting officer a letter requesting our repayment of approximately $4.0 million for work performed under this task order, which the letter claims was unauthorized. We believe that based on facts currently known, the foregoing matters will not have a material adverse effect on our consolidated financial condition, results of operations or liquidity. U.S. Government Audits Our contracts are regularly audited by the DCAA and other government agencies. These agencies review our contract performance, cost structure and compliance with applicable laws, regulations and standards. The DCAA also reviews the adequacy of, and our compliance with, our internal control systems and policies, including our purchasing, property, estimating, compensation and management information systems. Any costs found to be improperly allocated to a specific contract will not be reimbursed. In addition, government contract payments received by us for allowable direct and indirect costs are subject to adjustment after audit by government auditors and repayment to the government if the payments exceed allowable costs as defined in the government contracts. The Defense Contract Management Agency ("DCMA") formally notified the Company of non-compliance with Cost Accounting Standard ("CAS") 403, Allocation of Home Office Expenses to Segments, on April 11, 2007. The Company issued a response to the DCMA on April 26, 2007 with a proposed solution to resolve the non-compliance, which related to the allocation of corporate general and administrative costs between the Company's divisions. This issue is currently pending a DCMA response to the Company's April 26, 2007 letter. In management's opinion and based on facts currently known, the above described matters will not have a material adverse effect on the Company's consolidated financial condition, results of operations or liquidity. Note 8 – Shareholders' Equity Common Stock Repurchase –The board of directors has authorized the Company to repurchase up to $10.0 million of its outstanding common stock. The shares may be repurchased from time to time in open market conditions or through privately negotiated transactions at the Company's discretion, subject to market conditions, and in accordance with applicable federal and state securities laws and regulations. Shares of stock repurchased under this plan will be held as treasury shares. The share repurchase program does not obligate the Company to acquire any particular amount of common stock and may be modified or suspended at any time at the Company's discretion. The purchases will be funded from available working capital. No shares have been repurchased under this program through June 29, 2007. Shareholders' Equity –The following table presents the changes to shareholders' equity during the first quarter ended June 29, 2007 (dollars in thousands): Note 9 – Interest Rate Derivatives In April 2007, in order to mitigate interest rate risk related to the term loans, the Company entered into interest rate swap agreements with notional amounts totaling $200.0 million, whereby the Company effectively fixed the interest rate at 4.975%, plus an applicable margin (2.25% at June 29, 2007) on the first $200.0 million of its debt indexed to LIBOR through May 22, 2010. The Company concluded that the interest rate swaps qualify as cash flow hedges under the provisions of SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." The fair value of the interest rate swap agreement was an asset of $1.7 million at June 29, 2007. Unrealized net gains from the changes in fair value of the interest rate swap agreements of $1.1 million, net of tax, for the first quarter ended June 29, 2007 is included in other comprehensive income. Note 10 – Equity-Based Compensation The Company's equity-based compensation is accounted for under SFAS No. 123(R), "Share-Based Payment". Under this method, the Company recorded equity-based compensation expense of $1.2 million and $0.7 million for the first quarter ended June 29, 2007 and June 30, 2006, respectively. Assuming each grant of Class B equity outstanding as of June 29, 2007 fully vests, the Company will recognize additional non-cash compensation expense as follows (dollars in thousands): Note 11 – Segment Information The Company's operations are aligned into two divisions, each of which constitutes a reporting During the first quarter ended June 29, 2007, certain contracts Maintenance Government DynCorp Total For the Three Months Ended December 29, 2006: Revenues $ 179,838 $ 337,701 $ — $ 517,539 Earnings before interest and taxes 272 34,361 (845 ) 33,788 Depreciation and amortization 3,398 7,690 51 11,139 For the Three Months Ended December 30, 2005: Revenues $ 179,592 $ 373,969 $ — $ 553,561 Earnings before interest and taxes 3,635 20,654 (714 ) 23,575 Depreciation and amortization 2,563 7,540 672 10,775 Maintenance Government DynCorp Total For the Nine Months Ended December 29, 2006: Revenues $ 528,029 $ 1,001,915 $ — $ 1,529,944 Earnings before interest and taxes 7,444 72,537 (6,978 ) 73,003 Depreciation and amortization 9,376 23,192 2,086 34,654 Assets 331,731 843,704 89,436 1,264,871 For the Nine Months Ended December 30, 2005: Revenues $ 521,963 $ 896,282 $ — $ 1,418,245 Earnings before interest and taxes 17,156 47,033 (670 ) 63,519 Depreciation and amortization 8,400 23,175 1,815 33,390 For the Three For the Nine Dec. 29, Dec. 30, Dec. 29, Dec. 30, Earnings before interest and taxes $ 33,788 $ 23,575 $ 73,003 $ 63,519 Interest expense 14,554 20,498 47,059 56,427 Loss on debt extinguishment and preferred stock — — 9,201 — Provision for income taxes 7,640 1,444 8,646 5,607 Net income $ 11,594 $ 1,633 $ 8,097 $ 1,485 COMPANY OVERVIEW We are a leading provider of We Over most of the last two decades, the U.S. government has been increasing its reliance on the private sector for a wide range of professional and In addition to the increase in government spending on outsourcing, particularly among our customers, our end-markets are also growing. The DoD budget for fiscal 2008, excluding supplemental funding relating to operations in Iraq and Afghanistan, has been proposed to Congress at $481.4 billion, representing a 62% increase over fiscal 2001. Fiscal 2006 DoD outlay was $499.4 billion. This growth is expected to continue, with the DoD forecasting its annual budget to grow to over $538.4 billion (excluding supplemental funding) by fiscal 2012. The U.S. government budget for international development and humanitarian and international security assistance coordinated by the DoS has grown from approximately $15.0 billion in fiscal 2000 to $25.0 billion in fiscal 2006, a CAGR of 8.9%. Services included in this budget include law enforcement training, eradication of international narcotics, certain contingency services and security services. Similarly, there has been significant growth in the Department of Homeland Security budget which is estimated at $46.4 billion for fiscal 2008, which represents a 13% CAGR since fiscal 2002 for the Department of Homeland Security and its predecessor entities. We believe the following industry trends will further increase demand and enable us to more successfully compete for outsourced services in our target markets: BACKLOG We track contracted backlog in order to assess our current business development effectiveness and to assist us in forecasting our future business needs and financial performance. Backlog consists of orders and priced options under our contracts. We define contracted backlog as the estimated value of contract modifications received from customers that have not been recognized as revenue. Our backlog consists of funded and unfunded amounts. Funded backlog is based upon amounts actually appropriated by a customer for payment of goods and services less actual revenue recorded as of the measurement date under that appropriation. Unfunded backlog is the actual dollar value of unexercised contract options. Most of our U.S. government contracts allow the customer the option to extend the period of performance of a contract for a period of one or more years. These options may be exercised at the sole discretion of the customer. Historically, it has been our experience that the customer has exercised contract options. Firm funding for our contracts is usually made for The following table sets forth our approximate contracted backlog Dec. 30, March 31, Dec. 29, Funded backlog $ 1,053 $ 1,024 $ 1,248 Unfunded backlog 1,639 1,617 4,553 Total backlog $ 2,692 $ 2,641 $ 5,801 In December 2006, For the Fiscal Year For the New orders $ 2,070 $ 2,568 $ 4,696 Dec. 30, March 31, Dec. 29, Estimated remaining contract value $6,135 $ 5,727 $ 8,944 Our estimated remaining contract value represents The following table RESULTS OF OPERATIONS – Three Months Ended June 29, 2007 and June 30, 2006 Consolidated The following tables set forth, for the periods indicated, our For the Three Months Ended For the Nine Months Ended Dec. 29, % of Dec. 30, % of Dec. 29, % of Dec. 30, % of Revenues: Government Services $ 337,701 65.3 % $ 373,969 67.6 % $ 1,001,915 65.5 % $ 896,282 63.2 % Maintenance and Technical Support Services 179,838 34.7 179,592 32.4 528,029 34.5 521,963 36.8 Total revenues 517,539 100.0 % 553,561 100.0 % 1,529,944 100.0 % 1,418,245 100.0 % Costs of services (excluding depreciation and amortization disclosed below) 449,680 86.9 498,482 90.1 1,343,447 87.8 1,262,074 89.0 Selling, general and administrative expenses 24,949 4.8 21,013 3.8 82,906 5.4 59,874 4.2 Depreciation and amortization 10,656 2.1 10,563 1.9 33,005 2.2 32,763 2.3 Total costs and expenses 485,285 93.8 530,058 95.8 1,459,358 95.4 1,354,711 95.5 Interest expense 14,554 2.8 14,595 2.6 44,057 2.9 42,278 3.0 Interest on mandatory redeemable shares — — 5,903 1.1 3,002 0.2 14,149 1.0 Loss on debt extinguishment and preferred stock — — — — 9,201 0.6 — — (Income) loss from joint ventures (1,000 ) (0.2 ) 40 0.0 (1,323 ) (0.1 ) 181 0.0 Interest income (534 ) (0.1 ) (112 ) 0.0 (1,094 ) (0.1 ) (166 ) 0.0 Income before income taxes 19,234 3.7 3,077 0.5 16,743 1.1 7,092 0.5 Provision for income taxes 7,640 1.5 1,444 0.2 8,646 0.6 5,607 0.4 Net income $ 11,594 2.2 % $ 1,633 0.3 % $ 8,097 0.5 % $ 1,485 0.1 % Interest expense –Interest expense for the Interest on mandatory redeemable For the Three Months Ended December 29, 2006 December 30, 2005 Earnings before interest and taxes Government Services $ 34,361 10.2 % $ 20,654 5.5 % Maintenance and Technical Support Services 272 0.2 % 3,635 2.0 % Other(1) (845 ) NA (714 ) NA Consolidated $ 33,788 6.5 % $ 23,575 4.3 % Loss on debt extinguishment and preferred Income tax Results by Segment The following table For the Nine Months Ended December 29, 2006 December 30, 2005 Earnings before interest and taxes Government Services $ 72,537 7.2 % $ 47,033 5.2 % Maintenance and Technical Support Services 7,444 1.4 % 17,156 3.3 % Other(1) (6,978 ) NA (670 ) NA Consolidated $ 73,003 4.8 % $ 63,519 4.5 % Government Services offset by: Operating Income –Operating income for the first quarter ended June 29, 2007 increased $1.1 million, or 4.3%, as compared with the first quarter ended June 30, 2006. The increase primarily reflected the following: offset by: Maintenance & Technical Support Services Revenues –Revenues for the first quarter ended June 29, 2007 increased $11.9 million, offset by: Operating Income –Operating income for the first quarter ended June 29, 2007 increased $2.3 million, or 58.3%, as compared with the first quarter ended June 30, 2006. The increase primarily reflected the following: offset by: LIQUIDITY AND CAPITAL RESOURCES Cash generated by operations and For the Nine Months Ended December 29, December 30, Net cash provided by operating activities $ 45,788 $ 54,162 Net cash used in investing activities (5,374 ) (3,538 ) Net cash used in financing activities (5,651 ) (39,295 ) working capital, particularly accounts receivable. Based on our current level of operations, we believe our cash flow from operations and our available borrowings under our Cash Flow Analysis Cash provided by operating activities for the first quarter ended June 29, 2007 was $3.6 million, an increase of Cash used by investing activities was $1.2 million for the first quarter ended June 29, 2007 compared to cash used of $3.5 million for the first quarter ended June 30, 2006. The cash used in both years was primarily due to the purchase of property and Cash used by financing activities was $36.1 million for the first quarter ended June 29, 2007 compared to cash Financing As of June 29, 2007, no balance was outstanding under our revolving credit facility and $303.5 million was outstanding under our term loans. Our available borrowing capacity under the revolving credit facility, totaled $73.9 million at June 29, 2007, which gives effect to $29.1 million of outstanding letters of credit. The weighted-average interest rate at June 29, 2007 for our borrowings under the credit facility was 7.37%. We are required, under certain circumstances as defined in our credit agreement, to make a As of Principal payments on our We entered into interest rate swap agreements to Debt Covenants and Other Matters Our credit facility contains various financial covenants, including minimum levels of earnings before interest, taxes, depreciation and amortization ("EBITDA"), minimum interest and fixed charge coverage ratios, and maximum capital expenditures and total leverage ratio. Non-financial covenants restrict the ability of the Company and its subsidiaries to dispose of assets; incur additional indebtedness, prepay other indebtedness or amend certain debt instruments; pay dividends; create liens on assets; enter into sale and leaseback transactions; make investments, loans or advances; issue certain equity instruments; make acquisitions; engage in mergers or consolidations or engage in certain transactions with affiliates; and otherwise restrict certain corporate activities. We were in compliance with various financial and non-financial covenants at June 29, 2007. OFF BALANCE SHEET ARRANGEMENTS Our off-balance sheet ACCOUNTING DEVELOPMENTS We have presented the Disclosure Regarding Forward-Looking Information This Quarterly Report on Form 10-Q contains various forward-looking statements within the There have been no material changes in market risk from the information provided in Part II, Item 7A, (a) Evaluation of Disclosure Controls and Procedures Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, has evaluated our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act). Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were effective to ensure that information required to be disclosed in reports that we file or submit under the Exchange Act are: (1) recorded, processed, summarized and reported within the time periods specified in the (b) Changes in Internal Controls There have been no changes in our internal controls over financial reporting that have occurred during PART There have been no material changes in risk factors from those described in Part I, Item 1A, None. None. None. Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 31.2* Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 32.1* Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 32.2* Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Pursuant to the requirements of the Securities Exchange Act of 1934, the
TABLE OF CONTENTSI—I – FINANCIAL INFORMATION
CONDENSED CONSOLIDATED BALANCE SHEETSSTATEMENT OF OPERATIONSInAmounts in thousands, except per share data)
2006
2006 For the Three Months Ended June 29, 2007 June 30, 2006 (unaudited)
Revenues $ 548,673 $ 537,684
Cost of services
(480,089)
(470,334)Selling, general and administrative expenses (26,536) (27,405) Depreciation and amortization expense (10,390) (11,137) Operating income 31,658 28,808 Interest expense (14,489) (14,814) Interest expense on mandatory redeemable shares – (3,002) Loss on early extinguishment of debt and preferred stock – (9,201) Net earnings from affiliates 891 446 Interest income 1,250 150 Income before income taxes 19,310 2,387 Provision for income taxes (7,052) (3,004) Net income (loss) $ 12,258 $ (617)
Basic and diluted income (loss) per share
$
0.22
$
(0.01)1
CONDENSED CONSOLIDATED STATEMENTS OF INCOMEBALANCE SHEETSFOR THE THREE AND NINE MONTHS ENDED DECEMBER 29, 2006 AND DECEMBER 30, 2005InAmounts in thousands, except per share data)
Months Ended
Months Ended
2006
2005
2006
2005 As of June 29, 2007 March 30, 2007 (unaudited) ASSETS
Current assets:
Cash and cash equivalents $ 68,792 $ 102,455 Restricted cash 23,815 20,224 Accounts receivable, net of allowances of $2,830 and $3,428 496,059 461,950 Prepaid expenses and other current assets 73,164 69,487 Deferred income taxes 15,452 12,864 Total current assets 677,282 666,980
Property and equipment, net
12,473
12,646Goodwill 420,180 420,180 Tradename 18,318 18,318 Other intangibles, net 205,166 214,364 Deferred income taxes 14,366 13,459 Other assets, net 17,378 16,954 Total assets $ 1,365,163 $ 1,362,901
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt $ 3,096 $ 37,850 Accounts payable 145,578 127,282 Accrued payroll and employee costs 89,518 88,929 Other accrued liabilities 124,636 116,308 Income taxes payable 8,687 13,682 Total current liabilities 371,515 384,051
Long-term debt, less current portion
592,388
593,144Other long-term liabilities 8,338 6,032
Commitments and contingencies
Shareholders' equity:
Common stock, $0.01 par value – 57,000,000 shares
issued and outstanding 570 570 Additional paid-in capital 353,450 352,245 Retained earnings 37,907 27,023 Accumulated other comprehensive income (loss) 995 (164) Total shareholders' equity 392,922 379,674 Total liabilities and shareholders' equity $ 1,365,163 $ 1,362,901
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)FOR THE NINE MONTHS ENDED DECEMBER 29, 2006 AND DECEMBER 30, 2005
2006
2005 For the Three Months Ended June 29, 2007 June 30, 2006 (unaudited) Cash flows from operating activities Net income (loss) $ 12,258 $ (617) Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization 10,569 11,400 Loss on early extinguishment of debt – 2,657 Loss on early extinguishment of preferred stock – 5,717 Amortization of deferred loan costs 753 1,579 Recovery of losses on accounts receivable (955) (2,250) Net earnings from affiliates (891) (446) Deferred income taxes 1,012 (3,459) Equity-based compensation 1,205 695 Changes in assets and liabilities: Restricted cash (3,591) – Accounts receivable (32,185) (31,353) Prepaid expenses and other current assets (3,584) 1,802 Accounts payable and accrued liabilities 24,257 23,612 Redeemable preferred stock dividend – (3,695) Income taxes payable (5,285) (2,665) Net cash provided by operating activities 3,563 2,977 Cash flows from investing activities Purchase of property and equipment (520) (2,557) Purchase of computer software (753) (622) Other assets 100 (354) Net cash used by investing activities (1,173) (3,533) Cash flows from financing activities Net proceeds from initial public offering – 346,446 Redemption of preferred stock – (216,126) Payment of special Class B distribution – (100,000) Payments on long-term debt (35,510) (28,831) Premium paid on redemption of senior subordinated notes – (2,657) Premium paid on redemption of preferred stock – (5,717) Payment of deferred financing costs – (500) (Payments) borrowings under other financing arrangements (543) 3,537 Net cash used by financing activities (36,053) (3,848) Net decrease in cash and cash equivalents (33,663) (4,404) Cash and cash equivalents, beginning of period 102,455 20,573 Cash and cash equivalents, end of period $ 68,792 $ 16,169
Income taxes paid (net of refunds)
$
11,224
$
9,134Interest paid $ 6,603 $ 10,226 Non-cash investing activities $ – $ 191 CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITYFOR THE NINE MONTHS ENDED DECEMBER 29, 2006
Paid-In
(Deficit)
Other
ComprehensiveSee notes to condensed consolidated financial statements.4DYNCORP INTERNATIONAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)(In thousands, except per share data)1—Description of Business and Organization,1 – Basis of Presentation and PrinciplesAccounting PoliciesConsolidationPresentationDescription of Business and Organization (together, the “Company”), provides defense and technical services and government outsourced solutions primarily to U.S. government agencies throughout the United States ("U.S.") government agencies. Our specific global expertise is in law enforcement training and internationally. Key offerings includesupport, security services, base operations, and aviation services such as maintenance and related support, as well as base maintenance/operationsoperations. References herein to "DynCorp", the "Company", "we", "our", or "us" refer to DynCorp International Inc. and personal and physical security services. Primary customers include the U.S. Departments of Defense and State, but also include other government agencies, foreign governments and commercial customers.On February 11, 2005, Computer Sciences Corporation and DynCorp, the Company’s former parent, soldits subsidiaries unless otherwise stated or indicated by context. We refer to our subsidiary, DynCorp International LLC to DynCorp International Inc., a newly formed entity controlled by The Veritas Capital Fund II, L.P. and its affiliates (“Veritas Capital”). The Company has no operations independent of DynCorp International LLC. The primary reason for the Company’s acquisition of DynCorp International LLC (the “2005 Acquisition”) and the most significant factor contributing to the goodwill value is the Company’s ability to leverage its infrastructure and management expertise in addressing the government outsourcing trend. All significant intercompany balances and transactions were eliminated.subsidiaries, as our "operating company."During the third quarter of fiscal year 2007, the Company renamed its two reporting segments as follows: (i) International Technical Services changed to Government Services; and (ii) Field Technical Services changed to Maintenance and Technical Support Services. See note 12 for a description of service offerings in the two reporting segments.Equity OfferingOn May 9, 2006, the Company consummated an equity offering of 25,000 shares of its Class A common stock, par value $0.01 per share, at a price of $15.00 per share (the “Equity Offering”), less the underwriters’ discount of 6% per share. On May 4, 2006, the Class A common stock listed on the New York Stock Exchange under the symbol “DCP.” The gross proceeds from the Equity Offering of $375,000, together with cash on hand, were used: (i) to redeem all of the Company’s outstanding preferred stock, of which $222,823 in stated amount, including accrued and unpaid dividends thereon, was outstanding as of May 9, 2006; (ii) to pay a special Class B distribution in the amount of $100,000, representing a return of capital of $95,861 to DIV Holding LLC, the holder of the Company’s common stock; (iii) to redeem $27,968 of the Company’s senior subordinated notes on June 8, 2006; (iv) to pay prepayment penalties of $8,374, $5,717 of which represented prepayment penalties on the Company’s preferred stock and $2,657 of which represented prepayment penalties on the Company’s senior subordinated notes; and (v) to pay transaction expenses of approximately $35,000, including an underwriters’ commission of $22,500, a fee of $5,000 to Veritas Capital and $7,500 of miscellaneous fees and expenses related to the Equity Offering.Basis of PresentationU.S.accounting principles generally accepted accounting principles (“GAAP”in the United States of America ("GAAP") for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)Company’sCompany's audited consolidated financial statements and the related notes thereto included in the Company’sCompany's Annual Report (File No. 001-0824791) on Form 10-K, filed with the Securities and Exchange Commission (the “SEC”"SEC") on June 29, 2006.18, 2007.Company’sCompany's financial position at DecemberJune 29, 20062007 and March 31, 2006,30, 2007, the results of operations for the threefirst quarter ended June 29, 2007 and nine months ended December 29,June 30, 2006, and December 30, 2005, and cash flows for the nine monthsfirst quarter ended DecemberJune 29, 20062007 and DecemberJune 30, 2005,2006, have been included. The results of operations for the three and nine monthsfirst quarter ended DecemberJune 29, 20062007 are not necessarily indicative of the results to be expected for the full fiscal year or for any future periods. The Company uses estimates and assumptions required for preparation of the financial statements. The estimates are primarily based on historical experience and business knowledge and are revised as circumstances change. However, actual results could differ from the estimates.31.31 of such year. The three monthsfirst quarter ended DecemberJune 29, 2007 was a 13-week period from March 31, 2007 to June 29, 2007. The first quarter ended June 30, 2006 was a 13-week period from September 30, 2006 to December 29, 2006. The three months ended December 30, 2005 was a 13-week period from October 1, 2005 to December 30, 2005. The nine months ended December 29, 2006 was a 39-week period from April 1, 2006 to December 29,June 30, 2006. The nine months ended December 30, 2005 was39-week periodtax return should be recorded in the financial statements. Under FIN No. 48, we may recognize the tax benefit from April 2, 2005 to December 30, 2005.Principles of ConsolidationAll intercompany transactions and balances have been eliminated in consolidation. Investments in whichan uncertain tax position only if it is more likely than not that the Company owns a 20% to 50% ownership interest are accounted fortax position will be sustained on examination by the equity method. These investments are in business entities in whichtaxing authorities. The determination is based on the Company does not have control, but hastechnical merits of the ability to exercise significant influence over operatingposition and financial policies. The Company has no investments in business entities of less than 20% ownership interest.The following table sets forth the Company’s ownership in joint ventures and companiespresumes that are not consolidated into the Company’s financial statements as of December 29, 2006 and are accounted foreach uncertain tax position will be examined by the equity method. Forrelevant taxing authority that has full knowledge of all relevant information.entities listed below, the Company has the right to elect half of the board of directors (the “Board of Directors”) or other management body. Economic rights are indicated by the ownership percentages listed below.Dyn Al-Rushaid Services LLC50.0%DynCorp-Hiberna Ltd.50.0%DynEgypt LLC50.0%DynPuertoRico Corporation49.9%Contingency Response Services LLC45.0%Partnership for Temporary Housing LLC40.0%Babcock DynCorp Limited40.0%DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(Accounting Developmentsthousands, except per share data)The following table sets forth the Company’s ownership in a joint venture that is consolidated into the Company’s financial statements as of December 29, 2006. For the entity listed below, the Company has the right to elect half of the Board of Directors or other management body.Global Linguist Solutions LLC51.0%Recent Accounting PronouncementsIn September 2006, the SEC issued Staff Accounting Bulletin No. 108 (“SAB 108”), “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,” to address diversity in practice in quantifying financial statement misstatements. SAB No. 108 requires the Company to quantify misstatements based on their impact on each of its consolidated financial statements and related disclosures. SAB No. 108 is effective as of the end of fiscal 2007, allowing a one-time transitional cumulative effect adjustment to retained earnings as of April 1, 2006 for errors that were not previously deemed material, but are material under the guidance in SAB No. 108. The Company is currently evaluating the impact SAB No. 108 will have on its consolidated financial statements.In SeptemberFebruary 2006, the Financial Accounting Standards Board (the “FASB”("FASB") issued Statement of Financial Accounting Standards (“SFAS”("SFAS") No. 157, “155, "Accounting for Certain Hybrid Financial Instruments," which amends SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," and SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities." SFAS No. 155 is effective for all financial instruments acquired or issued after the beginning of an entity's fiscal year that begins after September 15, 2006. Our adoption of SFAS No. 155 in the first quarter of fiscal year 2008 had no impact on our consolidated financial condition or results of operations.Fair Value MeasurementsPronouncements Not Yet Implemented.”defines"Fair Value Measurements." SFAS No. 157 establishes a single definition of fair value establishesand a framework for measuring fair value under GAAP and expands disclosures about fair value measurements. This statement does not require any new fair value measurements; rather, itSFAS No. 157 applies under other accounting pronouncements that require or permit fair value measurements; however, it does not require any new fair value measurements. The provisions of this statement are to be applied prospectively as of the beginning of the fiscal year in which this statement is initially applied, with any transition adjustment recognized as a cumulative-effect adjustment to the opening balance of retained earnings. This statementSFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company is currently evaluating2007. We do not expect the impactadoption of adopting SFAS No. 157 to have a material impact on itsour consolidated financial statements.condition and results of operations.July 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 clarifies the accounting and reporting for income taxes recognized in accordance with SFAS No. 109, “Accounting for Income Taxes.” This interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. The requirements of FIN 48 are effective for fiscal periods beginning after December 15, 2006. The Company is currently evaluating the impact of FIN 48 on its consolidated financial statements.On May 18, 2006, the State of Texas passed a bill replacing the current franchise tax with a new margin tax that will go into effect on January 1, 2008. The Company estimates that the new margin tax will not have a significant impact on tax expense or deferred tax assets and liabilities.In May 2005,February 2007, the FASB issued SFAS No. 154, “Accounting Changes159, "The Fair Value Option for Financial Assets and Error Corrections—a replacementFinancial Liabilities – Including an amendment of APB Opinion No. 20 and FASB Statement No. 3.”115." SFAS No. 154159 permits entities to choose to measure many financial instruments and certain other items at fair value that are not currently required to be measured at fair value. It provides guidance onentities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting for, and reporting of, accounting changes and error corrections. It establishes, unless impracticable, retrospective application as the required method for reporting a change in accountingDYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)principle in the absence of explicit transition requirements specific to the newly adopted accounting principle.provisions. SFAS No. 154 also provides guidance for determining whether retrospective application of a change in accounting principle159 is impracticable and for reporting such a change when retrospective application is impracticable. The provisions of SFAS No. 154 are effective for accounting changes and corrections of errors made in fiscal periodsyears beginning after DecemberNovember 15, 2005. The2007. We do not expect the adoption of SFAS No. 154 did not159 to have any effecta material impact on the Company’sour consolidated financial statements.ReclassificationThe per share data ascondition and results of March 31, 2006 has been adjusted to reflect the 64-to-1 stock split and conversion of the Class B common stock to Class A common stock as a result of the Equity Offering.Receivables consist of the following:
2006
2006Unbilled receivables consist of costs and fees billable on contract completion or other specified events, the majority of which is expected to be billed and collected within sixty days. Unbilled receivables include revenue recognized on projects for which the Company has been requested by the customer to begin work under a new contract or extend work under an existing contract, and for which formal contracts or contract modifications have not been executed at the end of the quarter. At December 29, 2006 and March 31, 2006, unbilled receivables included $29,210 and $31,303, respectively, related to this type of unbilled receivable balance. In addition, unbilled receivables includes amounts related to contract retentions that are billed when the Company has negotiated final indirect rates with the U.S. government and, once billed, are subject to audit and approval by outside third parties. Consequently, the timing of collection of retention balances of $626 and $10 as of December 29, 2006 and March 31, 2006, respectively, is outside the Company’s control. Based on the Company’s historical experience, the majority of the retention balance is expected to be collected beyond one year.operations.DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)3—Other Intangible Assets and Other AssetsA summary of amortizable intangible assets is as follows:
Average
Amortization
Period
Carrying Value
Amortization
Average
Amortization
Period
Carrying Value
AmortizationAmortization expense for customer-related and other intangibles was $10,353 and $10,009 for the three months ended December 29, 2006 and December 30, 2005, respectively. Amortization expense for customer-related and other intangibles was $32,062 and $31,143 for the nine months ended December 29, 2006 and December 30, 2005, respectively. Estimated amortization related to intangible assets at December 29, 2006 for fiscal years 2007 through 2011 is as follows: $11,050, $42,756, $39,972, $39,580 and $35,407, respectively.Deferred financing cost is amortized through interest expense. Amortization related to deferred financing costs was $812 and $821 for the three months ended December 29, 2006 and December 30, 2005, respectively. Amortization related to deferred financing costs was $2,327 and $2,141 for the nine months ended December 29, 2006 and December 30, 2005, respectively.A summary of other assets is as follows:
2006
20069DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)Cash payments for interest on indebtedness were $34,938 and $35,918 for the nine months ended December 29, 2006 and December 30, 2005, respectively. Net cash payments for income taxes were $17,588 and $8,883 for the nine months ended December 29, 2006 and December 30, 2005, respectively. The Company had non-cash investing activities of $819 related to property and equipment purchases that were accrued at December 29, 2006. In addition, the Company had non-cash leasehold improvements of $3,015 related to one lease at December 29, 2006.Derivative financial instruments are recognized as either assets or liabilities in the balance sheet and carried at fair value. Gains or losses on derivatives designated as cash flow hedges are initially reported as a component of other comprehensive income and later classified into earnings in the period in which the hedged item also affects earnings.The Company entered into an interest rate cap effective May 4, 2005 and paid a premium of $483. The interest rate cap has the effect of placing a ceiling on the interest expense the Company could incur on $172,500 of variable debt indexed to the London Interbank Offered Rate at 6.5% plus the applicable floating spread (2.25% at December 29, 2006) as defined by the Company’s senior secured credit facility agreement. The interest rate cap has been designated by the Company as a cash flow hedge. As of December 29, 2006, the fair value of the interest rate cap was $11, which was recorded in the accompanying condensed consolidated balance sheet in other assets with the reduction in fair value, net of tax, recorded in equity as other comprehensive loss.Note 6—Significant Changes in IndebtednessThe table below presents significant changes in the amounts of senior subordinated notes and similar debt:
Subordinated
Credit FacilityOn June 9, 2006, in connection with the Equity Offering, the Company redeemed $27,968 of the $320,000 aggregate principal amount of the senior subordinated notes. The Company also paid $834 in accrued interest through the redemption date and a prepayment penalty of $2,657 related to the senior subordinated notes.In connection with the Equity Offering, the Company recognized an $827 loss related to the write-off of a portion of the previously capitalized loan cost for the senior subordinated notes.On June 28, 2006, the Company, through its operating company, DynCorp International LLC, entered into a second amendment and waiver of the Company’s senior secured credit facility, dated February 11,DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)2005, as amended on January 9, 2006. The second amendment and waiver provided for a senior secured credit facility of $431,551, representing a $90,000 revolver and a $341,551 outstanding term loan. The second amendment and waiver also provided for the following, among other things: (i) decreased the interest rate spread applicable to the term loan under the Company’s senior secured credit facility; (ii) permits the Company to request an increase in its revolving credit facility by an aggregate amount of up to $30,000, subject to the Company obtaining commitments from existing and/or new lenders; (iii) increases the amount of capital expenditures permitted under the Company’s senior secured credit facility from $4,000 per fiscal year to $8,000 per fiscal year; (iv) increases the amount of capitalized leases permitted under the Company’s senior secured credit facility from $10,000 per fiscal year to $25,000 per fiscal year; (v) allows for the payment of dividends and the repurchase of the Company’s capital stock in the amount of $10,000, plus, if the Company’s leverage ratio (as defined in the senior secured credit facility) is below 3.25:1.00, 25% of the Company’s excess cash flow (as defined in the senior secured credit facility) for each fiscal year; and (vi) provides for the first excess cash flow payment, as defined by the senior secured credit facility, to commence on the Company’s fiscal year that ends on March 30, 2007.In November 2006, the Company obtained additional commitments from two new lenders which increased the revolving credit facility to $103,000. On December 29, 2006, the Company had $93,899 available under the senior secured credit facility. This amount gives effect to $9,101 in outstanding letters of credit as of December 29, 2006.Note 7—Class B Equity ParticipationDuring fiscal year ended March 31, 2006, certain members of management and the outside directors were granted a participating interest in the profits through a plan that granted them Class B interests in an affiliate, DIV Holding LLC. DIV Holding LLC conducts no operations and was established for the primary purpose of holding the equity of the Company. At December 29, 2006, the aggregate individual grants were approximately 5.2% of the Class B interests of DIV Holding LLC. Pursuant to the terms of the operating agreement governing DIV Holding LLC, the holders of Class B interests are entitled to receive up to 7.5% of all distributions made by DIV Holding LLC after the holders of the Class A interests in DIV Holding LLC have received a return of their invested capital, provided that the holders of the Class A interests have received an 8.0% per annum internal rate of return (compounded annually) on their invested capital. The Class B interests are subject to a five-year vesting schedule with any unvested interest reverting to the holders of Class A interests in the event the Class B interests are forfeited or repurchased. The fair value of the Class B interests granted to certain members of management and the outside directors was determined to be $8,494 as of the effective date of each grant. In accordance with SFAS No. 123(R) “Share-Based Payment,” the Company records compensation expense based on the fair value as of the effective date of each grant and commensurate with its graded vesting schedules. For the nine months ended December 29, 2006, the Company recognized non-cash compensation expense of $1,471.Assuming each grant fully vests, the Company will recognize additional non-cash compensation expense as follows:DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)On May 3, 2006, the Company amended and restated its certificate of incorporation with the Secretary of State of the State of Delaware. The amended and restated certificate of incorporation authorized the Company to issue up to:(1) 50,000 shares of preferred stock, par value $0.01 per share; and(2) 232,000 shares of Class A common stock, par value $0.01 per share.The new shares of preferred and common stock have rights identical to the preferred stock and the Class A common stock of the Company outstanding immediately before filing the amendment. At December 29, 2006, the Company had no preferred stock outstanding and 57,000 shares of Class A common stock outstanding.Stock SplitThe Company authorized a 64-to-1 stock split for the 500 shares of the Company’s Class B common stock outstanding as of May 3, 2006.Mandatory Conversion of the Class B common stockUpon the payment of mandatory dividends to the holders of the Company’s Class B common stock and the expiration of the underwriters’ overallotment option from the Equity Offering, each share of Class B common stock then issued and outstanding was automatically converted into one fully paid and nonassessable share of Class A common stock.Mandatory DividendPrior to the closing of the Equity Offering, the Board of Directors declared a mandatory dividend, payable in cash and subject to the consummation of the Equity Offering, to the holders of record on May 3, 2006 of the then-outstanding shares of the Company’s Class B common stock, in an aggregate amount of $100,000. The Company completed the Equity Offering and paid the mandatory dividend on May 9, 2006.Note 9—Shares Subject to Mandatory RedemptionIn connection with the Equity Offering, the Company redeemed all of its outstanding $0.01 par value Series A-1 and Series A-2 preferred stock for $222,823, including accrued and unpaid dividends as of the date of redemption of May 9, 2006. In addition, the Company paid $5,717 in prepayment penalties for the early redemption of the preferred stock.12DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)Note 10—2 – Earnings Per Sharestock.or dilutive stock equivalents during the periods presented. The following table reconciles the numerators and denominators used in the computations of both basic and diluted earnings per share (“EPS”):share:
Months Ended
Months Ended
2006
2005
2006
2005 For the Three Months Ended (Amounts in thousands, except per share data) June 29, 2007 June 30, 2006 Numerator Net income (loss) $ 12,258 $ (617)
Denominator
Weighted average common shares – basic and diluted 57,000 47,934 Basic and diluted income (loss) per share $ 0.22 $ (0.01) 11—3 – Other Intangible Assets June 29, 2007 (Amounts in thousands, except years) Weighted
Average
Useful Life
(Years) Gross
Carrying Value Accumulated
Amortization Net Finite-lived intangible assets: Customer-related intangible assets 8.5 $ 290,381 $ (91,608) $ 198,773 Other 4.2 13,352 (6,959) 6,393 $ 303,733 $ (98,567) $ 205,166 Indefinite-lived intangible assets – Tradename $ 18,318 $ – $ 18,318
March 30, 2007(Amounts in thousands, except years) Weighted
Average
Useful Life
(Years) Gross
Carrying Value Accumulated
Amortization Net Finite-lived intangible assets: Customer-related intangible assets 8.5 $ 290,381 $ (82,233) $ 208,148 Other 4.2 12,599 (6,383) 6,216 $ 302,980 $ (88,616) $ 214,364 Indefinite-lived intangible assets – Tradename $ 18,318 $ – $ 18,318 (Dollars in thousands) June 29, 2007 March 30, 2007 Billed $ 206,487 $ 227,942 Unbilled 286,698 232,543 Other receivables 2,874 1,465 Total $ 496,059 $ 461,950 (Dollars in thousands) June 29, 2007 March 30, 2007 Term loans $ 303,452 $ 338,962 9.5% Senior subordinated notes 292,032 292,032 595,484 630,994 Less current portion of long-term debt (3,096) (37,850) Total long-term debt $ 592,388 $ 593,144 Contingencies and LitigationContingenciesnoncancelable, cancelable onlynon-cancelable, except by the payment of penalties or cancelable upon one month’smonth's notice. All lease payments are based on the lapse of time but include, in some cases, payments for insurance, maintenance and property taxes. There are no purchase options on operating leases at favorable terms, but most leases have one or more renewal options. Certain leases on real estate property are subject to annual escalations for increases in utilities and property taxes. Lease rental expense amounted to $6,862$15.9 million and $19,124$22.1 million for the three monthsfirst quarter ended DecemberJune 29, 20062007 and DecemberJune 30, 2005, respectively. Lease rental expense amounted to $39,232 and $39,544 for the nine months ended December 29, 2006, and December 30, 2005, respectively.Minimum fixed rentals required for the next five years and thereafter under operating leases in effect at December 29, 2006 are as follows:ContingenciesThe Company has no significant long-term purchase agreements with service providers.DYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)ContingenciesThe primary financial instruments that potentially subject the Company to concentrations of credit risk are accounts receivable. Departments and agencies of the U.S. federal government account for all but minor portions of the Company’s customer base, thereby minimizing credit risk. Furthermore, the Company continuously reviews all accounts receivable and records provisions for doubtful accounts as needed.LitigationCompany’sCompany's management, based in part upon opinions of counsel, insurance in force and the facts currently known, that liabilities in excess of those recorded, if any, arising from such matters would not have a material adverse effect on the results of operations, consolidated financial condition or liquidity of the Company over the long term.In addition, the Company is occasionally the subject of investigations by various agencies of the U.S. government. Such investigations, whether related to U.S. government contracts or conducted for other reasons, could result in administrative, civil or criminal liabilities, including repayments, fines or penalties being imposed upon the Company, or could lead to suspension or debarment from future U.S. government contracting. In management’s opinion, there are no outstanding issues of this nature atPending Litigation and Claimsthat will have a material adverse effect on the Company’s consolidated financial condition, results of operations or liquidity.On January 30, 2007, the Special Inspector General for Iraq Reconstruction (SIGIR) issued a report on Company contract number S-LMAQM-04-C-0030, Task Order 0338, concerning the Iraqi Police Training Program. Among other items, the report raises questions about the Company’s work under Task Order 0338 to establish a residential camp in Baghdad to house training personnel. Specifically, the SIGIR report recommends that the Director, Office of Acquisition Management, U.S. Department of State (“State Department”), seek reimbursement from the Company of $4.2 million paid by the State Department for work that the SIGIR maintains was not contractually authorized. In addition, the SIGIR report recommends that the State Department request the Defense Contract Audit Agency to review two Company invoices totaling $19.1 million. In management’s opinion and based on facts currently known, the above described matters raised in the SIGIR report will not have a material adverse effect on the Company’s consolidated financial condition, results of operations or liquidity.On September 11, 2001, a class action lawsuit seeking $100,000 on behalf of approximately 10,000 citizens of Ecuador was filed against DynCorp International LLC and several of its former affiliates in the U.S. District Court for the District of Columbia. The action alleges personal injury, property damage and wrongful death as a consequence of the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador. The spraying operations are conducted under a Department of State contract in cooperation with the Colombian government. The terms of the Department of State contract provide thatDYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)the Department of State will indemnify DynCorp International LLC against third-party liabilities arising out of the contract, subject to available funding. The Company is also entitled to indemnification by Computer Sciences Corporation in connection with this lawsuit, subject to certain limitations. Additionally, any damage award would have to be apportioned between the other defendants and the Company.On December 4, 2006 a lawsuit wasfour lawsuits were served, and amended on December 29, 2006, on behalf of 1,663 citizens of the Ecuadorian provinces of Esmeraldes and Sucumbios, seeking unspecified monetary damages against DynCorp International LLC and several of its former affiliates in the U.S. District Court for the Southern District of Florida.Florida, concerning the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador. Three of the lawsuits, filed on behalf of the Providences of Esmeraldas, Sucumbíos, and Carchi in Ecuador, allege violations of Ecuadorian law, international law, and the statutes and common law of Florida, including negligence, trespass, and nuisance. The actionfourth lawsuit, filed on behalf of 1,663 citizens of the Ecuadorian provinces of Esmeraldas and Sucumbíos, alleges personal injury, various counts of negligence, trespass, battery, assault, intentional infliction of emotional distress, violations of the Alien Tort Claims Act, and various violations of international law, as a consequence of the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador.law. The spraying operations are the same operations which are the subject of the above-mentioned litigation and are conducted under a Department of State ("DoS") contract in cooperation withunder which this work is performed provides indemnification to the Colombian government. As mentioned above, the terms of the Department of State contract provide that the Department of State will indemnify DynCorp International LLCCompany against third-party liabilities arising out of the contract, subject to available funding.On December 29, 2006, a lawsuit was served The four lawsuits were consolidated and, based on behalf of the Providence of Sucumbios in Ecuador, seeking unspecified monetary damages against DynCorp International LLC and several of its former affiliates inCompany's motion granted by the court on May 22, 2007, subsequently transferred to the U.S. District Court for the Southern District of Florida. The action alleges violations of Ecuadorian law, international law, and the statutes and common law of Florida, including negligence, trespass, and nuisance, as a consequence of the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador. The spraying operations are the same operations which are the subject of the litigation described in the immediately preceding paragraph. The relevant Department of State contract provides indemnification to DynCorp International LLC against third-party liabilities arising out of the contract, subject to available funding.Columbia.DynCorp International LLCit submitted false claims to the government under the International Narcotics and& Law Enforcement Affairs contract with the Department of State.DoS. The action, titledU.S. ex rel. Longest v. DynCorp and DynCorp International LLC, was filed in the U.S. District Court for the Middle District of Florida under seal. The case was unsealed in 2005, and the Company learned of its existence on August 15, 2005 when it was served with the complaint. After conducting an investigation of the allegations made by the plaintiff, the U.S. government did not join the action. The complaint does not demand any specific monetary damages; however, in the event that a court decidesruling against the Company in this lawsuit that result could have a material adverse effect on the Company’sits operating performance.organizedalso entitled to indemnification by Computer Sciences Corporation in connection with this lawsuit, subject to certain limitations. Additionally, any damage award would have to be apportioned between the other defendants and the Company. Common Stock Accumulated
Other
Comprehensive
(Loss) Income Additional
Paid-In
Capital Retained Earnings Total
Shareholders'
Equity Shares Amount Balance at March 30, 2007 57,000 $ 570 $ 352,245 $ 27,023 $ (164) $ 379,674 Adjustment for the adoption of FIN No. 48 – (1,374) – (1,374) Comprehensive income: Net income – 12,258 – 12,258 Interest rate hedging activity, net of tax – – 1,080 1,080 Foreign currency translation – – 79 79 Comprehensive income – 12,258 1,159 13,417 Equity-based compensation 1,205 – – 1,205 Balance at June 29, 2007 57,000 $ 570 $ 353,450 $ 37,907 $ 995 $ 392,922 Nine month period ended March 28, 2008 $ 3,058 Fiscal year ended April 3, 2009 2,296 Fiscal year ended April 2, 2010 and thereafter 1,874 Total $ 7,228 segments. During the third quarter of fiscal year 2007, the Company renamed its two reporting segments as follows: (i) International Technical Services tosegment: Government Services (“GS”("GS"); and (ii) Field Technical Services to Maintenance and Technical Support Services (“MTSS”("MTSS"). MTSS primarily offers aviation services, including maintenance and modifications, training, aftermarket logistics support, avionics upgrades, field installations, and aircraft operations andDYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)training. GS primarily offersprovides outsourced law enforcement training, drug eradication, global logistics, base maintenance/operations and personal and physical security services. The Company provides services domesticallyto government and commercial customers in foreign countries under contracts with the U.S. government and some foreign customers. The risks associated with the Company’s foreign operations relating to foreign currency fluctuation and political and economic conditions in foreign countries have not had a significant negative impact on the Company. The Company operates principally within a regulatory environment subject to governmental contracting and accounting requirements, including Federal Acquisition Regulations, Cost Accounting Standards and audits by various U.S. federal agencies.The Company’sjurisdictions. MTSS operating segment provides long-term aviation services and engineering and logistics support, ranging from daily fleet maintenance to extensive modification and overhauls on aircraft, weapons systems and support equipment. MTSS generates revenue under long-termthat are typically threewere reclassified between segments. All prior year revenues and operating income related to ten years in duration. Basedthese contracts was reclassified to conform to the current year presentation. The reclassifications had no impact on revenues, Contract Field Teamsour consolidated results of operations, financial position or cash flows. The following is a summary of the most significant programfinancial information of the reportable segments reconciled to the amounts reported in the MTSS operating segment. The Company and its predecessors have participatedcondensed consolidated financial statements. Three Months Ended (Dollars in thousands) June 29, 2007 June 30, 2006 Revenues Government Services $ 358,017 $ 358,939 Maintenance and Technical Support Services 190,656 178,745 Total reportable segments 548,673 537,684 Corporate activities – – $ 548,673 $ 537,684 Operating Income Government Services $ 26,731 $ 25,629 Maintenance and Technical Support Services 6,132 3,874 Total reportable segments 32,863 29,503 Net unallocated corporate expenses(a) (1,205) (695) $ 31,658 $ 28,808 Depreciation and amortization Government Services $ 7,380 $ 7,989 Maintenance and Technical Support Services 3,189 3,411 Total reportable segments 10,569 11,400 Corporate activities – – $ 10,569 $ 11,400 this program for 54 consecutive years. This program deploys highly mobile, quick-response field teams to customer locations worldwide to supplement the Company’s customers’ workforce, including generally providing mission support to aircraft and weapons systems in addition to depot-level repair.The Company’s GS operating segment primarily provides outsourced law enforcement training, drug eradication, global logistics, base operations and personal and physical security services to government and commercial customers in foreign jurisdictions. The GS operating segment has witnessed strong growth as a part of the Department of State’s outsourced law enforcement training in the Middle East. The Company was awarded a new Civilian Police contract, which expanded the existing Civilian Police program in place since 1994. As of September 29, 2006, the Company had deployed civilian police officers from the United States to two countries to train and offer logistics support to the local police and assist them with infrastructure and reconstruction.The DynCorp International Home Office component represents assets not included in a reporting segment and is primarily comprised of the following: (i) severance-related costs; (ii) bonuses paid to certain members of management related to the Equity Offering; (iii) deferred compensation expense related to the Class B equity interest; and (iv) income or loss from joint ventures.The table below presents selected financial information for the respective periods, for the two reportable segments and for financial items that cannot be allocated to either operating segment:
And Technical
Support
Services
Services
International
Home OfficeDYNCORP INTERNATIONAL INC.NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)(Unaudited)(In thousands, except per share data)
and Technical
Support
Services
Services
International
Home OfficeThe Company evaluates segment performance based primarily on the non-GAAP measure of earnings before interest and taxes (“EBIT”), which includes the effects of corporate expense allocations. EBIT is a non-GAAP measure that includes operating income, interest income and income (loss) from joint ventures. Items that the Company does not include in EBIT are interest expense and income taxes, each of which the Company evaluates on a consolidated level. The Company’s management believes EBIT is a useful measurement of the Company’s performance because it provides information that can be used to evaluate the effectiveness of the Company’s business from an operational perspective, exclusive of the costs to finance those activities and exclusive of income taxes, neither of which is directly relevant to the efficiency of those operations.EBIT should not be considered an alternative to, or a more meaningful indicator of the Company’s operating performance than, operating income or net income as determined in accordance with GAAP. In addition, EBIT may not be comparable to a similarly titled measure of another company. A reconciliation of earnings before interest and taxes to net income is as follows:
Months Ended
Months Ended
2006
2005
2006
2005* * * * *17
ITEM 2. MANAGEMENT’S MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSReferences to the “Company,” “us” or “we” refer to DynCorp International Inc. and its consolidated subsidiaries. The following discussion and analysis of the Company’sour consolidated financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements, and the notes thereto, and other data contained elsewhere in this report. Certain information contained in theQuarterly Report. The following discussion and analysis set forth below includes forward-lookingshould also be read in conjunction with our audited consolidated financial statements, that involve risks and uncertainties.Special Note Regarding Forward-Looking StatementsThis Quarterlynotes thereto, and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in our Annual Report on Form 10-Q contains various forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements, written, oral or otherwise made, represent the Company’s expectation or belief concerning future events. Forward-looking statements involve risks and uncertainties. Without limiting the foregoing, the words “believes,” “thinks,” “anticipates,” “plans,” “expects” and similar expressions are intended to identify forward-looking statements. The Company cautions that these statements are further qualified by important economic, competitive, governmental and technological factors that could cause our business, strategy or actual results or events to differ materially, or otherwise, from those in the forward-looking statements, including, without limitation, changes in the demand for services that the Company provides; additional work awarded under the Civilian Police and International Narcotics and Law Enforcement contracts; pursuit of new commercial business in the United States and abroad; activities of competitors; changes in significant operating expenses; changes in availability of capital; general economic and business conditions in the United States; acts of war or terrorist activities; variations in performance of financial markets; estimates of contract values; anticipated revenues from indefinite delivery, indefinite quantity contracts; expected percentages of future revenues represented by fixed-price and time-and-materials contracts; and statements covering our business strategy, those described in “Risk Factors” and other risks detailed from time to time in the Company’s reports10-K filed with the SEC. Accordingly, such forward-looking statements do not purportSEC on June 18, 2007. References to be predictions"DynCorp", the "Company", "we", "our", or "us" refer to DynCorp International Inc. and its subsidiaries unless otherwise stated or indicated by context. future events or circumstances and therefore there can be no assurance that any forward-looking statement contained herein will prove to be accurate. The Company assumes no obligation to update the forward-looking statements.Company BackgroundWe provide specialized mission-critical outsourced technical services to civilian and military government agencies. Our specific global expertise is in law enforcement training and support, security services, base operations and aviation services and operations. We also provide logistics support for all of our services. Our current customers include the Department of State, or DoS; the U.S. Army, Air Force, Navy and Marine Corps (collectively, the Department of Defense, or DoD); commercial customers and foreign governments. As of June 29, 2007, we had over 14,600 employees in 33 countries, approximately 45 active contracts ranging in duration from three to ten years and over 100 task orders. Our predecessors have provided essential services to numerous U.S. government departments and agencies since 1951.operated as a separate subsidiary of Computer Sciences Corporation from March 2003 until February 2005. On February 11, 2005, Computer Sciences Corporation and DynCorp sold our Company to DynCorp International Inc., a newly formed entity controlled by Veritas Capital (the “2005 Acquisition”).SegmentsDuring the third quarter of fiscal year 2007, the Company renamed itsoperate through two reportingcore business segments, as follows: (i) International Technical Services changed to Government Services, (“GS”);or GS, and (ii) Field Technical Services changed to Maintenance and Technical Support Services, (“MTSS”).or MTSS. The following table describes the key service offerings for each of GS and MTSS:GOVERNMENT SERVICES MAINTENANCE AND TECHNICAL
SUPPORT SERVICESKey Service Offerings Law Enforcement and Security – International police training, judicial support, immigration support, base operations, security for diplomats, personal protection, security system design, installation and operations, and development of security software, smart cards and biometrics
Contingency and Logistics Operations – Peace-keeping support, humanitarian relief, de-mining, worldwide contingency planning and other rapid response services, inventory procurement, tracking services, equipment maintenance, property control, data entry and mobile repair services
Operations Maintenance and Construction Management – Facility and equipment maintenance, custodial and administrative services, civil, electrical, infrastructure, environmental and mechanical engineering and construction management
Specialty Aviation and Counter-drug Operations – Drug eradication, aerial firefighting, counter-drug surveillance, border control, host nation pilot and crew trainingAviation Services and Operations – Aircraft fleet maintenance and modifications, depot augmentation, aftermarket logistics support, aircrew services and training, ground equipment maintenance and modifications, quality control, Federal Aviation Administration certification, facilities and operations support, aircraft scheduling and flight planning and the provisioning of pilots, test pilots and flight crews
Aviation Engineering – Aircraft modification programs manufacturing and installation, engineering design and kit manufacturing and installation, avionics upgrades, field installations, cockpit/fuselage design and configuration management and technical data, drawings and manual revisions
Aviation Ground Equipment Support – Ground equipment support, maintenance and overhaul, modifications and upgrades, corrosion control, engine rebuilding, hydraulic and load testing and serviceability inspections
Ground Vehicle Maintenance – Vehicle maintenance, overhaul and corrosion control and scheduling work flow management, logistics support and equipment inspectionBacklogCURRENT OPERATING CONDITIONS AND OUTLOOKNew Orderssupport services. This increased use of outsourcing by the U.S. government has been driven by a variety of factors: lean-government initiatives launched in the 1990s; surges in demand during times of national crisis; the increased complexity of missions; the transformation of the U.S. military to focus on the war-fighter efforts and the loss of skills within the government caused by workforce reductions and retirements. Spending on professional services alone grew from $102.0 billion in fiscal 1995 to more than $200.0 billion in fiscal 2005. We believe that the U.S. government's growing mission and continued human capital challenges have combined to create a new market dynamic, one that is less directly reflective of overall government budgets and more reflective of the ongoing shift of service delivery from the federal workforce to private sector providers. only one year at a time, with the remainder of the years under the contract expressed asperiod consisting of a series of one-year options. As is the case with the base period of our U.S. government contracts, option periods are subject to the availability of funding for contract performance. The U.S. government is legally prohibited from ordering work under a contract in the absence of funding. Our historical experience has been that the government generally has funded the option periods of our contracts. (dollars in millions) as of the dates indicated:
2005
2006
2006(Dollars in millions) June 29, 2007 March 30, 2007 Funded Backlog $ 1,012 $ 1,402 Unfunded Backlog 5,003 4,730 Total Backlog $ 6,015 $ 6,132 the Company, through a joint venture named Global Linguist Solutions LLC was("GLS"), we were awarded athe Intelligence and Security Command ("INSCOM") contract by the U.S. Army for management of translation and interpretation services in support of Operation Iraqi Freedom. The five-year contract withhas a maximum value of $4.645 billion, was awarded by the Intelligence and Security Command.approximately $4.6 billion. We are the managing partner of the joint venture withhave a 51% ownership interest in GLS and will consolidate the joint venture in our financial statements. TheAs of June 29, 2007 and March 30, 2007, the funded and unfunded amountbacklog related to this program ofwas $49.0 million and $3.3 billion, respectively, and has been included in the table above as of December 29, 2006.above. However, the incumbent contractor's protest of these services has filed a formal protest withthe award to GLS was sustained by the Government Accountability Office (the “GAO”("GAO"), thereby delaying in March 2007. We expect the commencement ofU.S. Army to issue a revised solicitation in accordance with the contract. The GAO has until April 2, 2007 to decide whetherGAO's decision, request revised proposals from the awards process was fair.competing contractors and make a new contract award decision. Our backlog and estimated remaining contract value metrics may require future adjustment depending on the outcome of future procurement actions taken by the protest.U.S. Army in implementing the GAO's recommendation.New orders represent new contracts, or additional work added under existing contracts, received during the periods presented below (dollars in millions).ESTIMATED REMAINING CONTRACT VALUE
Nine Months
Ended
Dec. 30, 2005
Ended
March 31, 2006
Nine Months
Ended
Dec. 29, 2006Estimated Remaining Contract ValueThe following table sets forth our estimated remaining contract value (dollars in millions) as of the dates indicated:
2005
2006
2006thetotal backlog plus management’smanagement's estimate of future revenues under indefinite delivery, indefinite quantityIDIQ contracts that have not been funded, or award term periods that have not yet been earned. These future revenues would be our estimate of revenue that would occur from the end of currently funded task orders until the end of the indefinite delivery, indefinite quantityIDIQ contracts. Our estimated remaining contract value is based on our experience under contracts, and we believe our estimates are reasonable. However, there can be no assurance that our existing contracts will result in actual revenues in any particular period or at all. These amounts could vary or even change significantly depending upon government policies, government budgets, appropriations and the outcome of protested contract awards.(dollars in thousands) sets forth our estimated remaining contract value as of the dates indicated:(Dollars in millions) June 29, 2007 March 30, 2007 Estimated remaining contract value $ 8,912 $ 8,991 historicalconsolidated results of operations:operations, both in dollars and as a percentage of revenues:
2006
Revenue
2005
Revenue
2006
Revenue
2005
Revenue For the Three Months Ended (Dollars in thousands) June 29, 2007 June 30, 2006 Revenues $ 548,673 100.0% $ 537,684 100.0% Cost of services (480,089) (87.5)% (470,334) (87.4)% Selling, general and administrative expenses (26,536) (4.8)% (27,405) (5.1)% Depreciation and amortization expense (10,390) (1.9)% (11,137) (2.1)% Operating income 31,658 5.8% 28,808 5.4% Interest expense (14,489) (2.7)% (14,814) (2.8)% Interest on mandatory redeemable shares – – (3,002) (0.6)% Loss on early extinguishment of debt and preferred stock – – (9,201) (1.7)% Net earnings from affiliates 891 0.2% 446 0.1% Interest income 1,250 0.2% 150 0.0% Income before taxes 19,310 3.5% 2,387 0.4% Provision for income taxes (7,052) (1.3)% (3,004) (0.6)% Net income (loss) $ 12,258 2.2% $ (617) (0.2)% Three Months Ended December 29, 2006 Compared To Three Months Ended December 30, 2005ConsolidatedRevenues.Revenues – Total revenues decreased from $553.6 millionRevenues for the three monthsfirst quarter ended December 30, 2005 to $517.5 million for the three months ended DecemberJune 29, 2006, a decrease of $36.12007 increased by $11.0 million, or 6.5%. For2.0%, as compared with the three monthsfirst quarter ended December 29, 2006 and DecemberJune 30, 2005, approximately 44%, 36% and 20% and approximately 27%, 38% and 35% of our revenues were derived from fixed-price, time-and-materials, and cost-reimbursement contracts, respectively.2006. The increase, as more fully described in the results by segment, is primarily due to a new contract in the MTSS segment.20Revenues from our GS segment decreased from $374.0 million for the three months ended December 30, 2005 to $337.7 million for the three months ended December 29, 2006, a decrease of $36.3 million or 9.7%. The GS revenue decrease was primarily driven by the conclusion of protective services previously provided in Israel, Haiti, Afghanistan and central Iraq. This reductionCost of services decreased revenues for the three months ended December 29, 2006 by $29.8 million, when compared to the three months ended December 30, 2005. Additional factors that contributed to the decrease in revenues are: (i) the ending of services provided in support of Hurricane Katrina relief efforts; and (ii) completion of helicopter refurbishment and upgrades in support of U.S. drug eradication efforts in Afghanistan.Revenues from our MTSS segment increased from $179.6 million for the three months ended December 30, 2005 to $179.8 million for the three months ended December 29, 2006, an increase of $0.2 million or 0.1%. The increased MTSS revenue was primarily driven by: (i) services provided to the U.S. Air Force under the C-21 Contractor Logistics Support program; and (ii) increased maintenance of military equipment returning from Iraq and Afghanistan. Partially offsetting the revenue increase was a decrease in U.S. government funding for the Army Prepositioned Stocks Afloat program and the conclusion of the Fort Hood domestic aviation contract in July 2006.Costs of services.–CostsCost of services are comprised of direct labor, direct material, subcontractor costs, other direct costs and overhead. Other direct costs include travel, supplies and other miscellaneous costs. CostsCost of services decreased from $498.5 million for the three monthsfirst quarter ended December 30, 2005 to $450.0 million for the three months ended DecemberJune 29, 2006, a decrease of $48.52007 increased by $9.8 million, or 9.7%.2.1%, compared with the first quarter ended June 30, 2006. As a percentage of revenue, costs of services decreased from 90.1% in the three months ended December 30, 2005 to 86.9% for the three months ended December 29, 2006. The factors contributing to the decrease in cost of services as a percentage of revenue were: (i) a higher mix of fixed-price and time-and-material contracts inincreased to 87.5% for the current quarter; (ii) improved profitability under fixed-price contracts within our GS segment resultingfirst quarter ended June 29, 2007, from strong operational performance and contract changes; and (iii) a contract modification87.4% for construction efforts in Afghanistan completed in earlier periods.the first quarter ended June 30, 2006.Selling, general and administrative expenses.Selling, general and administrative expenses ("SG&A") –SG&A primarily relaterelates to functions such as management, legal, financial accounting, contracts and administration, human resources, management information systems, purchasing and business development. Selling, generalSG&A is impacted by growth in our underlying business, various initiatives to improve organizational capability, compliance and administrative expensessystems improvements. SG&A for the three monthsfirst quarter ended December 30, 2005 were $21.0 million and increased to $24.9 million for the three months ended DecemberJune 29, 2006, an increase of $3.92007 decreased $0.9 million, or 18.6%.3.2%, compared with the first quarter ended June 30, 2006. In addition, as a percentage of revenue, selling, general and administrative expenses increased from 3.8% for the three months ended December 30, 2005SG&A decreased to 4.8% for the three monthsfirst quarter ended DecemberJune 29, 2007 from 5.1% for the first quarter ended June 30, 2006. Factors contributing to higher selling, general and administrativethe decrease included: (i) non-recurring expenses forincurred during the three months ended December 29, 2006 include: (i) an increasefirst quarter of $2.4 million in business development costs; (ii) an increase of $0.8 million in legal costs; and (iii) an increase of $1.0 million in severance expensefiscal 2007 related to the departureCompany's initial public offering in May 2006; and (ii) employee-related costs incurred in the prior year due to the build up of a senior executive.in-house capabilities; offset by (i) consulting expenses primarily related to the Sarbanes-Oxley compliance project; and (ii) general SG&A costs necessary to support the continued growth of our business.Depreciation and amortization.Depreciation and amortization increased slightly from $10.6 million–Depreciation and amortization for the three monthsfirst quarter ended DecemberJune 29, 2007 decreased $0.7 million, or 6.7%, as compared with the first quarter ended June 30, 20052007. The decrease is primarily attributed to $10.7 millionlower amortization expense due to the full amortization of previously capitalized internally developed software.three monthsfirst quarter ended DecemberJune 29, 2006.Interest expense.Interest expense was $14.62007 decreased by $0.3 million, foror 2.2%, as compared with the three monthsfirst quarter ended DecemberJune 30, 2005 and December 29, 2006. The interest expense incurred relates to our senior secured credit facility, revolving credit facility, senior subordinated notes and amortization of deferred financing fees. Interest expense has remained consistent compared to the same period last year despite an increase in variable interest rates applicable to the senior secured credit facility. Partially offsetting the higher interest rateThe decrease in interest expense was lower interest incurred on the senior subordinated notes, which have a fixed interest rate of 9.5%,is primarily due to the partial redemption in connection with the Equity Offering.lower average outstanding debt balance, offset by slightly higher interest rates.shares.shares –Interest on the mandatory redeemable shares, or preferred stock, was $5.9$3.0 million for the three monthsfirst quarter ended DecemberJune 30, 2005.2006. All of our outstanding preferred stock was redeemed in connection with our Equity Offering on May 9, 2006. Therefore, we had no comparable expense for the three months ended December 29, 2006.Income tax expense.We had income tax expense for the three months ended December 29, 2006 of $7.6 million, an increase of $6.2 million from income tax expense of $1.4 million for the three months ended December 30, 2005. The increase is primarily the result of higher income before tax as compared to the three months ended December 30, 2005. We had an effective tax rate of 39.7% for the three months ended December 29, 2006. Included in our effective tax rate is a permanent difference related to interest on mandatory redeemable shares occurring during the first fiscal quarter of 2007. Our effective tax rate before consideration of this permanent difference was 36.3%.Results by SegmentWe evaluate segment performance based primarily on the non-GAAP measure of EBIT, which includes the effects of corporate expense allocations. EBIT is a non-GAAP measure that includes operating income, other income and income (loss) from joint ventures. Items that we do not include in EBIT are interest expense and income taxes, each of which we evaluate on a consolidated level. We believe EBIT is a useful measurement of our performance because it provides information that can be used to evaluate the effectiveness of our businesses from an operational perspective, exclusive of the costs to finance those activities and exclusive of income taxes, neither of which is directly relevant to the efficiency of those operations.EBIT should not be considered an alternative to, or a more meaningful indicator of our operating performance than, operating income or net income as determined in accordance with GAAP. In addition, our EBIT may not be comparable to a similarly titled measure of another company.The following table (dollars in thousands) sets forth earnings before interest and taxes for our GS and MTSS operating segments, both in dollars and as a percentage of segment specific revenue, for the three months ended December 29, 2006, compared to the three months ended December 30, 2005.(1)For the three months ended December 29, 2006, other consists of: (i) severance costs; (ii) joint venture income or loss; and (iii) compensation expense related to Class B equity participation not allocated to a specific segment. For the three months ended December 30, 2005, other primarily consists of joint venture income or loss and compensation expense related to Class B equity participation not allocated to a specific segment.Government ServicesEarnings before interest and taxes. Earnings before interest and taxes for the three months ended December 29, 2006 were $34.4 million, an increase of $13.7 million, or 66.2%, from $20.7 million for the three months ended December 30, 2005. The GS increase was primarily driven by the following operating factors: (i) increased international police liaison officers in Iraq and Afghanistan; (ii) improved execution from fixed price contracts such as the Civilian Police and International Narcotics and Law Enforcement Air-Wing (“Air-Wing”) programs; and (iii) increased logistic support services under the AfricaPeacekeeping program with the Department of State. In addition, GS’s earnings before interest and taxes during the quarter benefited $4.4 million from a contract modification for construction efforts in Afghanistan completed in earlier periods. Partially offsetting the higher earnings before interest and taxes was lower profitability in our Worldwide Personal Protection Services programs due to completion of task orders in Israel, Haiti, Afghanistan and central Iraq and increased business development costs of $2.4 million. Earnings before interest and taxes as a percentage of revenue for the three months ended December 29, 2006 and December 30, 2005 was 10.2% and 5.5%, respectively.Maintenance and Technical Support ServicesEarnings before interest and taxes.Earnings before interest and taxes for the three months ended December 29, 2006 were $0.3 million, a decrease of $3.3 million, or 91.7%, from $3.6 million for the three months ended December 30, 2005. The MTSS decrease was primarily driven by: (i) operating losses from delivering services to the U.S. Army under the Life Cycle Contractor Support and the AH-1/UH-1 programs; and (ii) increased general and administrative costs of $1.5 million. Partially offsetting the lower earnings before interest and taxes was improved profitability on our Contract Field Teams program. This program benefited from maintenance and repair activities performed on military equipment returning from Iraq and Afghanistan. Earnings before interest and taxes as a percentage of revenue for the three months ended December 29, 2006 and December 30, 2005 was 0.2% and 2.0%, respectively.Nine Months Ended December 29, 2006 Compared To Nine Months Ended December 30, 2005ConsolidatedRevenues. Total revenues increased from $1,418.2 million for the nine months ended December 30, 2005 to $1,529.9 million for the nine months ended December 29, 2006, an increase of $111.7 million or 7.9%. For the nine months ended December 29, 2006 and December 30, 2005, approximately 42%, 36% and 22% and approximately 27%, 38% and 35% of our revenues were derived from fixed-price, time-and-materials, and cost-reimbursement contracts, respectively.Revenues from our GS segment increased from $896.3 million for the nine months ended December 30, 2005 to $1,001.9 million for the nine months ended December 29, 2006, an increase of $105.6 million or 11.8%. The Air-Wing program increased $65.4 million. The Department of State awarded our current contract under the Air-Wing program during May 2005. As part of the new contract, we successfully transitioned many of the activities under this program from cost-reimbursement to fixed-price. The factors contributing to higher revenues include increased eradication efforts in South America, combined with increased activity in Afghanistan providing aviation support to the ground eradication effort under the Civilian Police program. Our Civilian Police program contributed $52.5 million to the increase in revenues. The Civilian Police program benefited from an increased number of international police liaison officers deployed in Iraq and Afghanistan, compared to the nine months ended December 30, 2005. In addition, while supporting the Iraq effort, we benefited from operations and maintenance support efforts, as well as additional procurement activities. The Logistics Support programs revenue increased by $36.4 million, compared to the nine months ended December 30, 2005. The increase within the Logistics Support programs is primarily due to the added work under the Africa Peacekeeping contract with the Department of State. The factors contributing to increased revenues were partially offset by a reduction in services under the Worldwide Personal Protective Services program. We concluded four task orders under which we provided personal security services in Israel, Haiti, Afghanistan and central Iraq. The concluded task orders contributed a decrease in revenues for the nine months ended December 29, 2006 of $68.2 million, compared to the nine months ended December 30, 2005.Revenues from our MTSS segment increased from $522.0 million for the nine months ended December 30, 2005 to $528.0 million for the nine months ended December 29, 2006, an increase of$6.0 million or 1.1%. The MTSS increase was primarily driven by an increase in personnel and level of effort under the Contract Field Team program of $19.1 million and increased domestic aviation services provided to the U.S. Air Force under the C-21 Contractor Logistics Support program and Andrews contract of $19.6 million. Partially offsetting the higher revenue was the Army Prepositioned Stocks Afloat program, which decreased by $17.7 million mainly due to the U.S. government reducing its funding. In addition, the Fort Hood contract under the Domestic Aviation program ended in July 2006, which resulted in a $16.6 million decrease in revenues.Costs of services.Costs of services are comprised of direct labor, direct material, subcontractor costs, other direct costs and overhead. Other direct costs include travel, supplies and other miscellaneous costs. Costs of services increased from $1,262.1 million for the nine months ended December 30, 2005 to $1,343.4 million for the nine months ended December 29, 2006, an increase of $81.3 million or 6.4%. Despite recognizing operating costs in excess of contract funding to complete a base camp in Iraq in the second quarter of fiscal 2007 and the suspension of the ARAMCO security contract with a customer in Saudi Arabia, costs of services as a percentage of revenue decreased from 89.0% for the nine months ended December 30, 2005 to 87.8% for the nine months ended December 29, 2006. Factors that contributed to the decrease as a percent of revenue were: (i) continued strong performance of fixed-price task orders under the Civilian Police and Air-Wing programs; (ii) improved contract mix resulting from a larger proportion of higher-margin fixed-price and time-and-materials contracts; and (iii) a contract modification for construction efforts in Afghanistan completed in earlier periods.Selling, general and administrative expenses.Selling, general and administrative expenses primarily relate to functions such as management, legal, financial accounting, contracts and administration, human resources, management information systems, purchasing and business development. Selling, general and administrative expenses for the nine months ended December 30, 2005 were $60.0 million and increased to $82.9 million for the nine months ended December 29, 2006, an increase of $22.9 million or 38.2%. In addition, as a percentage of revenue, selling, general and administrative expenses increased from 4.2% for the nine months ended December 30, 2005 to 5.4% for the nine months ended December 29, 2006. Factors contributing to higher selling, general and administrative expenses for the nine months ended December 29, 2006 include: (i) an increase of $9.5 million in business development costs; (ii) an increase of $8.5 million in corporate administrative costs, primarily the result of developing these functions as an independent company; (iii) an increase of $5.7 million in severance-related costs from the departure of senior executives; (v) an increase of $1.6 million in legal costs; and (vi) $0.8 million increase for bonuses paid to certain members of management related to the Equity Offering. Offsetting the increase in selling, general and administrative expenses was a benefit of $4.7 million related to a reduction in bad debt expense.Depreciation and amortization.Depreciation and amortization increased slightly from $32.8 million for the nine months ended December 30, 2005 to $33.0 million for the nine months ended December 29, 2006, an increase of $0.2 million, or 0.6%.Interest expense.Interest expense increased from $42.3 million for the nine months ended December 30, 2005 to $44.1 million for the nine months ended December 29, 2006. The interest expense incurred relates to our senior secured credit facility, revolving credit facility, senior subordinated notes and amortization of deferred financing fees. The increase is due to the higher interest expense related to the senior secured credit facility from increasing variable interest rates during the nine months ended December 29, 2006. Partially offsetting the higher variable rate interest expense was lower interest incurred on the senior subordinated notes, which have a fixed interest rate of 9.5%, due to the partial redemption in connection with the Equity Offering.Interest on mandatory redeemable shares.Interest on the mandatory redeemable shares, or preferred stock, was $14.1 million for the nine months ended December 29, 2006, compared to $3.0 million for thenine months ended December 30, 2005. All of our outstanding preferred stock was redeemed in connection with our Equity Offeringinitial public offering in May 9, 2006, resulting in a shorter time outstanding, compared to the nine months ended December 30, 2005.2006.stock.stock –In conjunction with our Equity Offeringinitial public offering in May 2006, we incurred: (i) a premium of $5.7 million associated towith the redemption of all of our outstanding preferred stock; (ii) a premium of $2.7 million related to the redemption of a portion of our senior subordinated notes; and (iii) the write-off of $0.8 million in deferred financing costs associated with the early retirement of a portion of our senior subordinated notes.expense.expense –We hadOur effective tax rate of 36.5% for the first quarter ended June 29, 2007 decreased from 126% for the first quarter ended June 30, 2006. The income tax expense for the nine monthsfirst quarter ended December 29,June 30, 2006 of $8.6included $2.1 million which is an increase of $3.0 million fromin income tax expense of $5.6 million forrelated to the nine months ended December 30, 2005. The increase is primarily the result of higher income before tax. We had an effective tax rate of 51.6% for the nine months ended December 29, 2006. Inpremium paid on our preferred stock in connection with our Equity Offering, we redeemed, at a premium, all of our mandatory redeemable shares outstanding.the initial public offering. This premium iswas considered a discreet item for tax purposes and iswas not deductible. In addition, we incurred interest expense on our mandatory redeemable shares that is not deductible. OurThe effective tax rate before consideration of thethis discreet item and the interest on mandatory redeemable shares was 36.3%38.9%.We evaluate segment performance based primarily on the non-GAAP measure of EBIT, which includes the effects of corporate expense allocations. EBIT is a non-GAAP measure that includes operating income, other income and income (loss) from joint ventures. Items that we do not include in EBIT are interest expense and income taxes, each of which we evaluate on a consolidated level. We believe EBIT is a useful measurement of our performance because it provides information that can be used to evaluate the effectiveness of our businesses from an operational perspective, exclusive of the costs to finance those activities and exclusive of income taxes, neither of which is directly relevant to the efficiency of those operations.EBIT should not be considered an alternative to, or a more meaningful indicator of our operating performance than, operating income or net income as determined in accordance with GAAP. In addition, our EBIT may not be comparable to a similarly titled measure of another company.(dollars in thousands) sets forth earnings before interestthe revenues and taxesoperating income for our GS and MTSS operating segments, both in dollars and as a percentage of our consolidated revenues by segment and as a percentage of segment specific revenue for operating income, for the nine monthsfirst quarter ended DecemberJune 29, 2006,2007 as compared to the nine monthsfirst quarter ended DecemberJune 30, 2005.2006. For the Three Months Ended (Dollars in thousands) June 29, 2007 June 30, 2006 Revenues Government Services $ 358,017 65.2% $ 358,939 66.8% Maintenance & Technical Support Services 190,656 34.8% 178,745 33.2% Consolidated $ 548,673 100.0% $ 537,684 100.0% Operating Income Government Services $ 26,731 7.5% $ 25,629 7.1% Maintenance & Technical Support Services 6,132 3.2% 3,874 2.2% Other(1) (1,205) N/A (695) N/A Consolidated $ 31,658 5.8% $ 28,808 5.4% (1) For the nine months ended December 29, 2006, other consists of: (i) severance costs; (ii) joint venture income or loss; and (iii) compensation expense related to Class B equity participation not allocated to a specific segment. For the nine months ended December 30, 2005, other primarily consists of joint venture income or loss and management retention bonuses and compensation expense related to Class B equity participation not allocated to a specific segment.25Earnings before interest and taxes.Revenues – Earnings before interest and taxesRevenues for the nine monthsfirst quarter ended DecemberJune 29, 2006 were $72.5 million, an increase of $25.52007 decreased $0.9 million, or 54.3%0.3%, from $47.0 million for the nine months ended December 30, 2005. The GS increase was primarily driven by the following operating factors: (i) improved profitability on fixed-price task orders under the Civilian Police and Air-Wing programs due to strong performance and favorable contract changes; and (ii) increased logistic support services under the Africa Peacekeeping programas compared with the Departmentfirst quarter ended June 30, 2006. The decrease primarily reflected the following:State. In addition, GS’s earnings before interest and taxes for the current year benefited $4.4 million from a contract modification for construction efforts in Afghanistan completed in earlier periods. Partially offsetting the higher earnings before interest and taxes were: (i) costs in excess of contract funding to complete the construction of a base camp in Iraq for the Department of State; (ii) charges related to the suspension of a security contract with a customer located in Saudi Arabia; (iii) lower profitability in our Worldwide Personal Protection Services programs due to completion ofvarious task orders in Israel, Haiti, Afghanistanthe Law Enforcement and central Iraq;Security strategic business unit – $18.4 million; and (iv) generalconstruction and administrative costspeacekeeping activities in the Operations Maintenance and Construction Management strategic business unit – $11.4 million.$6.8construction and camp support services task orders in the prior fiscal year in the Contingency and Logistics Operations strategic business unit – $1.5 million.to supportor 6.7%, as compared with the first quarter ended June 30, 2006. The increase primarily reflected the following:of GS segment, corporate administrative and business development costs, net of $4.3 millionin Contract Logistics Support service line, primarily related to a reduction in bad debt expense. Earnings before interest and taxes as a percentage of revenue for the nine months ended December 29, 2006 and December 30, 2005 was 7.2% and 5.2%, respectively.Maintenance and Technical Support ServicesEarnings before interest and taxes. Earnings before interest and taxes for the nine months ended December 29, 2006 were $7.4 million, a decrease of $9.8 million, or 57.0%, from $17.2 million for the nine months ended December 30, 2005. The decrease was primarily driven by: (i) operating losses from deliveringnew contract under which we provide logistic support services to the U.S. ArmyAir Force C-21 fleet – $11.0 million; andLife Cycle ContractorField Service Operations service line – $1.6 million.AH-1/UH-1 programs;improved operating performance in the Aviation and (ii) increased general and administrative costs of $10.7 million resultingMaintenance service line – $0.3 million.corporate administrative and business development functions. Partially offsetting the lower earnings before interest and taxes was improved profitability on our Contract Field Teams program. This programService Operations service line which benefited in the prior year from maintenance and repair activities performed on military equipment returning from Iraq and Afghanistan. Earnings before interestAfghanistan – $0.6 million.taxes as a percentageborrowings available under our credit facility are our primary sources of revenue for the nine months ended December 29, 2006 and December 30, 2005 was 1.4% and 3.3%, respectively.Liquidity and Capital ResourcesThe following table sets forth cash flow data for the periods indicated therein (dollars in thousands):
2006
2005Cash FlowsOperating Activities.Cash and cash equivalents asshort-term liquidity. Our sources of December 29, 2006 were $55.3 million compared to $24.8 million as of December 30, 2005. Net cash provided by operating activities for the nine months ended December 29, 2006 was $45.8 million, while net cash provided by operating activities for the nine months ended December 30, 2005 was $54.2 million. The nine months ended December 29, 2006 experienced unfavorable timing of cash collections, which resulted in a use of cash of $3.8 million. In addition, during the nine months ended December 29, 2006, operating cash flow benefited from accounts payablegenerally include revenues and accrued liability activities related to the timing of payroll processing, timing of interest payments and customer advances. The timing for payroll processing, interest payments and customeradvances can vary from quarter to quarter. Other factors impacting operating cash flow during the nine months ended December 29, 2006 included: (i) one-time cash payments of $6.7 million for interest related to the Company’s preferred stock; and (ii) payment of special cash bonuses subsequent to our Equity Offering of $3.125 million in the aggregate to our executive officers and certain other members of management. These bonuses rewarded management for their efforts in connection with the successful consummationreduction of our Equity Offering. Operating cash flow for the nine months ended December 30, 2005 reflected high cash collections, which resulted in a $30.9 million source of cash. Partially off setting the increased collection activity was significant vendor payments.Investing Activities.Net cash used in investing activities was $5.4 million and $3.5 million for the nine months ended December 29, 2006 and December 30, 2005, respectively. For the nine months ended December 29, 2006 and December 30, 2005, the primary use of cash was to purchase property and equipment.Financing Activities.Net cash used in financing activities was $5.7 million and $39.3 million for the nine months ended December 29, 2006 and December 30, 2005, respectively. The cash used during the nine months ended December 29, 2006 included: (i) gross proceeds received from the Equity Offering of $375.0 million; (ii) payment of Equity Offering costs of $30.0 million; (iii) partial redemption of senior subordinated notes of $28.8 million, including accrued interest; (iv) redemption of all outstanding preferred stock and related accrued and unpaid interest of $228.5 million; and (v) payment of special Class B distribution of $100.0 million. The cash used in financing activities during the nine months ended December 30, 2005 was due to the $35.0 million repayment of borrowings under our revolving credit facility, the $2.6 million scheduled repayment of our bank note borrowings, the $1.2 million payment of offering expenses and the $0.5 million purchase of an interest rate cap that limits our exposure to upward movements in variable rate debt.senior secured credit facility will be adequate to meet our liquidity needs for at least the next twelve months. However, servicing our indebtedness will require a significant amount Three Months Ended (Dollars in thousands) June 29, 2007 June 30, 2006 Net Cash provided by operating activities $ 3,563 $ 2,977 Net Cash used by investing activities (1,173) (3,533) Net Cash used by financing activities (36,053) (3,848) cash. Our ability$0.6 million, or 20.0%, compared to generate sufficient$3.0 million of cash depends on numerous factors beyond our controlprovided in the first quarter ended June 30, 2006. The increase in cash flows reflects an increase in net income of $12.9 million, offset by the timing of cash collections from the DoS.we cannot be assured that our business will generate sufficientequipment and computer software.flow from operations, or that futureused of $3.8 million for the first quarter ended June 30, 2006. The cash used by financing activities during the first quarter ended June 29, 2007 is primarily due to repayment of borrowings will be available to us under our senior secured credit facility in an amount sufficient to enable us to repay our indebtedness, includingterm loans of $35.5 million. The cash used during the first quarter ended June 30, 2006 included: (i) gross proceeds received from the initial public offering of $375.0 million; (ii) payment of initial public offering costs of $30.0 million; (iii) partial redemption of senior subordinated notes or to fund our other liquidity needs.Equity OfferingOn May 9, 2006, we consummated an Equity Offering of 25,000,000 shares$31.4 million, including accrued interest; (iv) redemption of our Class A common stock, par value $0.01 per share, at a price of $15.00 per share. The gross proceeds from the Equity Offering of $375.0 million, together with cash on hand, were used: (i) to redeem all of our outstanding preferred stock of which $222.8 million in stated amount, includingand related accrued and unpaid dividends thereon, was outstanding asinterest of May 9, 2006; (ii) to pay a$221.8 million; (v) payment of special Class B distribution in the amount of $100.0 million representingand (vi) borrowings related to other financing arrangements of $3.5 million.returnpayment to reduce the outstanding principal of capitalthe term loans in the following year (the "Excess Cash Flow Payment"). Such payments are due at the end of $95.9the first quarter of the following fiscal year. As a result, we made payments of approximately $34.6 million on the term loans during the first quarter of fiscal 2008 related to DIV Holding LLC, the holderExcess Cash Flow Payment for the fiscal year ended March 30, 2007. The Excess Cash Flow Payment is an annual requirement under the credit agreement, and we cannot estimate with certainty what the Excess Cash Flow Payment will be, if any, for the fiscal year ended March 28, 2008.our common stock; (iii) to redeem $28.0June 29, 2007, $292.0 million of principal amount was outstanding under our senior subordinated notes. Our senior subordinated notes mature February 2013. Interest accrues on our senior subordinated notes on June 8, 2006; (iv) to pay prepayment penalties of $8.4 million, $5.7 million of which represented prepayment penaltiesand is payable semi-annually.preferred stockcredit facilities and $2.7 million of which represented prepayment penalties on our senior subordinated notes;notes based on outstanding borrowings as of June 29, 2007 are expected to be approximately $2.4 million for the remainder of fiscal 2008, $3.9 million in fiscal 2009, $3.1 million in fiscal 2010, $294.1 million in fiscal 2011, $0.0 million in fiscal 2012, and (v)$292.0 million in the fiscal years thereafter.pay transaction expenses of approximately $35.0 million, including an underwriters’ commission of $22.5 million, a fee of $5.0 million to Veritas Capital and $7.5 million of miscellaneous fees and expenses related to the Equity Offering.27Debt and Other ObligationsOur senior secured credit facility contains financial covenants, including a minimum interest coverage ratio and a maximum total debt to EBITDA ratio, and places certain restrictions onhedge our ability to make capital expenditures. These financial ratios include a minimum interest coverage ratio and a leverage ratio. The interest coverage ratio is the ratio of EBITDA (as defined in our senior revolving credit facility)exposure to cash interest expense for trailing quarters. The minimum interest coverage ratio increases from 2:1 to 3.2:1.0 during the term of the senior secured credit facility. The required interest coverage ratio for the third quarter of fiscal 2007 is 2.2 to 1.0. The maximum leverage coverage ratio decreases from 6:1 to 3:1 during the term of the senior secured credit facility. The required leverage coverage ratio for the third quarter of fiscal 2007 is 5.25 to 1.0. At December 29, 2006, we had an interest coverage ratio and leverage coverage ratio of 2.98:1.00 and 3.88:1.00, respectively. The senior secured credit facility also restricts the maximum amount of our capital expenditures during each year of the senior secured credit facility. Capital expenditures are expenditures that are required by GAAP to be included in the “purchase of property and equipment.” Our senior secured credit facility is secured by substantially all of our assets and the assets of our domestic subsidiaries, by a pledge of all of the capital stock of our domestic subsidiaries and by 65% of the capital stock of our first tier foreign subsidiaries. The initial borrowings thereunder are subject to customary closing conditions.On January 9, 2006, we entered into a first amendment and waiver of our senior secured credit facility. The first amendment and waiver increased the revolving commitment under our senior secured credit facility by $15.0 million to $90.0 million, which includes an increase in the sub-limit for letters of credit equal to the same amount. The first amendment and waiver also permitted us to: (i) pay a transaction fee to Veritas Capitalflows related to our Equity Offering of up to $10.0 million; (ii) pay a distribution to the holders of our Class B common stock in an amount equal to the sum of (x) $100.0 million plus (y) the proceeds, if any, of the underwriters’ over-allotment option, net of discount and estimated offering expenses; (iii) redeem all of our then currently outstanding preferred stock; and (iv) redeem up to $65.0 million of the $320.0 million aggregate principal amount of the senior subordinated notes. The first amendment and waiver waived the requirement in the senior secured credit facility that we use 50% of the net cash proceeds from our Equity Offering to prepay loans under the senior secured credit facility and/or permanently reduce the revolving commitments.On June 28, 2006, the Company, through its operating company, DynCorp International LLC, entered into a second amendment and waiver of our senior secured credit facility, dated February 11, 2005. The second amendment and waiver provided for a senior secured credit facility of $431.6 million, representing a $90.0 million revolver and a $341.6 million outstanding term loan. The maturity date of the amended senior secured credit facility remains unchanged. The second amendment and waiver also provided for the following, among other things: (i) decreased the interest rate applicable to the term loan under our senior secured credit facility; (ii) permits us to request an increase in our revolving credit facility by an aggregate amount of up to $30.0 million, subject to the Company obtaining commitments from existing and/or new lenders; (iii) increases the amount of capital expenditures permitted under our senior secured credit facility from $4.0 million per fiscal year to $8.0 million per fiscal year; (iv) increases the amount of capitalized leases permitted under our senior secured credit facility from $10.0 million per fiscal year to $25.0 million per fiscal year; (v) allows for the payment of dividends and the repurchase of our capital stock in the amount of $10.0 million plus, if our leverage ratio (as defined in our senior secured credit facility) is below 3.25:1.00, 25% of our excess cash flow (as defined in our senior secured credit facility) for each fiscal year; and (vi) provides for the first excess cash flow payment, as defined by the senior secured credit facility, to commence on our fiscal year that ends on March 30, 2007.In November 2006, the Company obtained additional commitments from two new lenders which increased the revolving credit facility to $103,000. On December 29, 2006, the Company had $93,899available under the senior secured credit facility. This amount gives effectThese agreements are more fully described in Note 9 to $9,101 in outstanding letters of credit as of December 29, 2006.As of December 29, 2006, we had $631.9 million of indebtedness, including the senior subordinated notes and excluding interest accrued thereon, of which $339.8 million was secured.Other Long-Term LiabilitiesOther long-term liabilities includes $2.5 million of tenant improvement concessions pertaining to the Company’s lease of one of its facilities. The lease will be amortized over the life of the lease as prescribed by SFAS No. 13, “Accounting for Leases,” and FASB Technical Bulletin 88-1, “Issues Relating to Accounting for Leases.” In addition, other long-term liabilities include $3.2 million for future expected payments to employees required by a foreign jurisdiction in the event of unilateral termination.Off-Balance Sheet ArrangementsAs of December 29, 2006, other than the operating leases discussed in note 11 to theour condensed consolidated financial statements we had noincluded in this Quarterly Report.arrangements.arrangements relate to operating lease obligations and letters of credit, which are excluded from the balance sheet in accordance with GAAP.Critical Accounting PoliciesCRITICAL ACCOUNTING POLICIES AND ESTIMATESOur Management's discussion and analysis of our financial condition and results of operations are based uponon our condensed consolidated financial statements which are prepared in accordance with GAAP. The preparation of these financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingencies at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period. Management evaluates these estimates and assumptions on an ongoing basis, including those relating to revenue recognition and cost estimation on long-term contracts, allowance for doubtful accounts, determination of goodwill and customer-related intangible assets, goodwill impairment, accounting for contingencies and litigation and accounting for income taxes.related footnotes contained within this Quarterly Report. Our estimates and assumptions have been prepared on the basis of the most current available information. The results of these estimates form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could materially differ from these estimates under different assumptions and conditions.We have severalmore critical accounting policies that are important toused in the portrayalpreparation of the consolidated financial statements were discussed in our financial condition and results2007 Annual Report on Form 10-K for the fiscal year ended March 30, 2007, filed with the SEC on June 18, 2007. These critical policies, for which no significant changes have occurred in the first quarter of operations and that require management’s most difficult, subjective and complex judgments. Typically, the circumstances that make these judgments complex and difficult have to do with making estimates about the effect of matters that are inherently uncertain. Our critical accounting estimates are as noted below.fiscal year 2008, include:ContractsWe provide our services under fixed-price, time-and-materials, and cost-reimbursement contracts. The formContracts;contract, rather than the type of service offering, is the primary determinant of revenue recognition. Revenues are recognized when persuasive evidence of an arrangement exists, services or products have been provided to the client, the sales price is fixed or determinable and collectibility is reasonably assured.Revenue on fixed-price contracts is generally recognized ratably over the contract period, measured by either output or input methods appropriate to the services or products provided. For example, “output measures” can include period of service, such as for aircraft fleet maintenance, and units delivered orproduced, such as aircraft for which modification has been completed. “Input measures” can include a cost-to-cost method, such as for procurement-related services.Revenue on fixed-price construction or production-type contracts, when they occur, is recognized on the basis of the estimated percentage of completion. Progress towards completion is typically measured based on achievement of specified contract milestones, when available, or based on costs incurred as a proportion of estimated total costs. Profit in a given period is reported at the expected profit margin to be achieved on the overall contract. This method can result in the deferral of costs or profit on these contracts. Management regularly reviews project profitability and underlying estimates. Revisions to the estimates at completion are reflected in results of operations as a change in accounting estimate in the period in which the facts that give rise to the revision become known by management. Revenue on fixed-price contracts that have a duration of less than six months is recognized on the completed contract method. Work in progress is classified as a component of inventory.We provide for anticipated losses on contracts by a charge to income during the period in which the losses are first identified. Amounts billed but not yet recognized as revenue under certain types of contracts are deferred. Unbilled receivables are stated at estimated realizable value. Contract costs on U.S. government contracts, including indirect costs, are subject to audit and adjustment by negotiations between us and government representatives. Substantially all of our indirect contract costs have been agreed upon through 2004. Contract revenues on U.S. government contracts have been recorded in amounts that are expected to be realized upon final settlement.Contract costs are expensed as incurred, except as described above and on certain other production-type fixed-price contracts, where costs are deferred until such time that associated revenue is recognized.Client contracts may include the provision of more than one of our services. For revenue arrangements with multiple deliverables, revenue recognition includes the proper identification of separate units of accounting and the allocation of revenue across all elements based on relative fair values.Many of our contracts are time-and-materials or fixed hourly/daily rate contracts. For these contracts, revenue is recognized each month based on actual hours/days charged to the program during that month multiplied by the fixed hourly/daily rate in the contract for the type of labor charged. Any material or other direct charges are recognized as revenue based on the actual direct cost plus Defense Contract Management Agency-approved indirect rates.Cost-reimbursement type contracts can be either cost plus fixed fee, or cost plus award fee. Revenue recognition for these two contract types is very similar. In both cases, revenue is based on actual direct cost plus Defense Contract Management Agency-approved indirect rates. In the case of cost plus fixed fee, the fixed fee is recognized based on the ratio of the fixed fee for the contract to the total estimated cost of the contract. In the case of cost plus award fee contracts, the fee is made up of two components, base fee and award fee. Base fee is recognized in the same manner as the fee on cost plus fixed fee contracts. The award fee portion is recognized based on an average of the last two award fee periods or award experience for similar contracts for new contracts that lack specific experience.AccountsAccounts;We establish allowance for doubtful accounts against specific billed receivables The process of preparing financial statements in conformity with GAAP requires the use of estimates and assumptions to determine certain of the assets, liabilities, revenues and expenses. These estimates and assumptions are based upon what we believe is the latestbest information available to determine whether invoices are ultimately collectible. Such information includes the historical trends of write-offs and recovery of previously written-off accounts, the financial strength of the respective customer and projected economic and market conditions. The evaluation of these factors involves subjective judgments, and changes in these factors may cause a misstatement of our accounts receivable, which could significantly impact our consolidated financial statements by incurring bad debtexpense. Given that we primarily serve the U.S. government, we believe the risk to be relatively low that a misstatement of accounts receivable would have a material impact on our financial results.Determination of Goodwill and Customer-Related Intangible AssetsIn accordance with SFAS No. 141, “Business Combinations,”the 2005 Acquisition was accounted for using the purchase method of accounting. This method requires estimates to determine the fair values of assets and liabilities acquired, including judgments to determine any acquired intangible assets such as customer-related intangibles, internally developed technology and tradename, as well as assessments of the fair value of tangible assets such as property and equipment. Liabilities acquired include reserves for litigation and other contingency reserves established prior to, or at the time of acquisition and require judgment in ascertaining a reasonable value as well.Third-party valuation firms assisted management in the appraisal of certain assets and liabilities, but even those determinations were based on significant estimates provided by us. For example, the value ultimately assigned to customer-related intangibles and internally developed technology were determined by a third-party valuation firm as of the date of acquisition, based onor assumptions. The estimates and judgments provided by us regarding expectations for the estimated future after-tax cash flowsassumptions could change materially as conditions within and beyond our control change. Accordingly, actual results could differ materially from those assets over their lives, includingestimates.probability of expected future contract renewals and sales, less a cost-of-capital charge, all of which was discountedinformation about accounting pronouncements not yet implemented in Note 1 to present value. If actual future after-tax cash flows are significantly lower than our estimates, we may be required to record an impairment charge to write down the identifiable intangible assets to their realizable values.The value assigned to the 2005 Acquisition goodwill equaled the amount of the purchase price in excess of the sum of the amounts assigned to the identifiable acquired assets, both tangible and intangible, less liabilities assumed. At December 29, 2006, we had goodwill of $420.2 million and identifiable intangible assets of $242.7 million.Goodwill and Intangible ImpairmentWe review goodwill and intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. We also review goodwill annually, during our fourth quarter, in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 142 requires that goodwill be tested, at a minimum, annually for each reporting unit using a two-step process. A reporting unit is an operating segment, as defined in paragraph 10 of SFAS No. 131, “Disclosures About Segments of an Enterprise and Related Information,” or a component of an operating segment. The goodwill impairment test is a two-step process that requires management to make judgments in determining what assumptions to use in the calculation. Management judgments include, but are not limited to, estimates for future sales, operating income, depreciation and amortization, income tax payments, working capital changes and capital expenditures, as well as expected growth rates for cash flows and long-term interest rates. The first step of the process consists of estimating the fair value of each of the reporting units based on a discounted cash flow model and comparing those estimated fair values with the carrying values, which includes the allocated goodwill. If a potential impairment is identified, the second step is to measure the impairment loss by comparing the implied fair value of goodwill with the carrying value of goodwill of the reporting unit. The implied fair value of goodwill is the residual fair value derived by deducting the fair value of a reporting unit’s identifiable assets and liabilities from its estimated fair value calculated in step one. The impairment charge, if any, would represent the excess of the carrying amount of the reporting unit’s goodwill over the implied fair value of its goodwill. A decline in estimated fair value of a reporting unit could result in an impairment charge to goodwill, which could have a material adverse effect on our business, financial condition and results of operations. We completed our impairment analysis of goodwill as of February 24, 2006, noting no indications of impairment for any of our reporting units. During the nine months ended December 29, 2006, we recognized an impairment ofapproximately $0.6 million associated with a customer-related intangible for a loss of a contract in Saudi Arabia.Accounting for Contingencies and LitigationWe are subject to various claims and contingencies associated with lawsuits, insurance, tax and other issues arising out of the normal course of business. Thecondensed consolidated financial statements reflectincluded in this Quarterly Report.treatmentmeaning of claims and contingencies based on our viewSection 27A of the expected outcome. We consult with legal counsel on issues relatedSecurities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Forward-looking statements, written, oral or otherwise made, represent the Company's expectation or belief concerning future events. Forward-looking statements involve risks and uncertainties. Without limiting the foregoing, the words "believes," "thinks," "anticipates," "plans," "expects" and similar expressions are intended to litigationidentify forward-looking statements. The Company cautions that these statements are further qualified by important economic, competitive, governmental and seek inputtechnological factors that could cause our business, strategy or actual results or events to differ materially, or otherwise, from other experts and advisors with respect to mattersthose in the ordinary course of business. If the likelihood of an adverse outcome is probable and the amount is estimable, we accrue a liability in accordance with SFAS No. 5, “Accounting for Contingencies.” Significantforward-looking statements, including, without limitation, changes in the demand for services that the Company provides; termination of key U.S. government contracts; pursuit of new commercial business and foreign government opportunities; activities of competitors; changes in significant operating expenses; changes in availability of capital; general economic and business conditions in the United States; acts of war or terrorist activities; variations in performance of financial markets; estimates or assumptions usedof contract values; anticipated revenues from indefinite delivery, indefinite quantity contracts; expected percentages of future revenues represented by fixed-price and time-and-materials contracts; and statements covering our business strategy, those described in assessing"Risk Factors" and other risks detailed from time to time in the likelihood of an adverse outcome could have a material effect on our consolidated financial results.Accounting for Income TaxesRealization of our deferred tax assets is primarily dependent on future U.S. taxable income. SFAS No. 109, “Accounting for Income Taxes,” provides for the recognition of deferred tax assets if realization of such assets is more likely than not. As a result of recent U.S. operating results togetherCompany's reports filed with the Company’s forecastsSEC. Accordingly, such forward-looking statements do not purport to be predictions of future pretax operating results, we believeevents or circumstances; therefore, there can be no assurance that net deferred tax assets in the amount of $20.4 million are realizable based on the “more likely than not” standard required for recognition.We are a U.S.-based multinational company subjectany forward-looking statement contained herein will prove to tax in multiple U.S. and foreign tax jurisdictions. The Company’s provision for income taxes is based on a jurisdictional mix of earnings, statutory rates and enacted tax rules. Significant judgment is required in determining the Company’s provision for income taxes and in evaluating its tax positions on a worldwide basis.be accurate. The Company believes its tax position is consistent withassumes no obligation to update the tax laws in the jurisdictions in which it conducts its business. It is possible that these positions may be challenged, which may have a significant impact on the Company’s effective tax rate.forward-looking statements.Recent Accounting PronouncementsIn September 2006, the Securities and Exchange Commission (“SEC”) issued Staff Accounting Bulletin No. 108 (“SAB 108”), “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,” to address diversity in practice in quantifying financial statement misstatements. SAB No. 108 requires that we quantify misstatements based on their impact on each of our financial statements and related disclosures. SAB No. 108 is effective as of the end of fiscal 2007, allowing a one-time transitional cumulative effect adjustment to retained earnings as of April 1, 2006 for errors that were not previously deemed material, but are material under the guidance in SAB No. 108. We are currently evaluating the impact SAB No. 108 will have on our consolidated financial statements.In September 2006, the Financial Accounting Standards Board (the “FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements.” SFAS No. 157 defines fair value, establishes a framework for measuring fair value under GAAP, and expands disclosures about fair value measurements. This statement does not require any new fair value measurements; rather, it applies under other accounting pronouncements that require or permit fair value measurements. The provisions of this statement are to be applied prospectively as of the beginning of the fiscal year in which this statement is initially applied, with any transition adjustment recognized as a cumulative-effect adjustment to the opening balance of retained earnings. This statement is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. We are currently evaluating the impact of adopting SFAS No. 157 on our consolidated financial statements.In July 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109” (“FIN 48”). FIN 48 clarifies the accounting and reporting for income taxes recognized in accordance with SFAS No. 109, “Accounting for Income Taxes.” This interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. The requirements of FIN 48 are effective for fiscal periods beginning after December 15, 2006. We are currently evaluating the impact of FIN 48 on our consolidated financial statements.On May 18, 2006, the State of Texas passed a bill replacing the current franchise tax with a new margin tax that will go into effect on January 1, 2008. We estimate that the new margin tax will not have a significant impact on tax expense or deferred tax assets and liabilities.In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections—a replacement of APB Opinion No. 20 and FASB Statement No. 3.” SFAS No. 154 provides guidance on the accounting for, and reporting of, accounting changes and error corrections. It establishes, unless impracticable, retrospective application as the required method for reporting a change in accounting principle in the absence of explicit transition requirements specific to the newly adopted accounting principle. SFAS No. 154 also provides guidance for determining whether retrospective application of a change in accounting principle is impracticable and for reporting such a change when retrospective application is impracticable. The provisions of SFAS No. 154 are effective for accounting changes and corrections of errors made in fiscal periods beginning after December 15, 2005. The adoption of SFAS No. 154 did not have any effect on our consolidated financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK“Quantitative"Quantitative and Qualitative Disclosures About Market Risk”Risk" in the Company’sCompany's Annual Report on Form 10-K for the fiscal year ended March 31, 2006,30, 2007, filed with the SEC on June 29, 2006.18, 2007.
ITEM 4. CONTROLS AND PROCEDURESSEC’sSEC's rules and forms; and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.ourthe fiscal quarter ended DecemberJune 29, 20062007 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.II—II – OTHER INFORMATIONOn December 4, 2006, a lawsuit was served, Information related to various commitments and amended on December 29, 2006, on behalf of 1,663 citizens of the Ecuadorian provinces of Esmeraldes and Sucumbios, seeking unspecified monetary damages, against DynCorp International LLC and several of its former affiliates,contingencies is described in the U.S. District Court for the Southern District of Florida. The action alleges personal injury, various counts of negligence, trespass, battery, assault, intentional infliction of emotional distress, violations of the Alien Tort Claims Act, and various violations of international law, as a consequence of the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador. The spraying operations are the same operations which are the subject of the litigation discussed in note 11Note 7 to the condensed consolidated financial statements and are conducted under a Department of State contract in cooperation with the Colombian government. The terms of the Department of State contract provide that the Department of State will indemnify DynCorp International LLC against third-party liabilities arising out of the contract, subject to available funding.statements.On December 29, 2006, a lawsuit was served on behalf of the Providence of Sucumbios in Ecuador, seeking unspecified monetary damages against DynCorp International LLC and several of its former affiliates in the U.S. District Court for the Southern District of Florida. The action alleges violations of Ecuadorian law, international law, and the statutes and common law of Florida, including negligence, trespass, and nuisance, as a consequence of the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador. The spraying operations are the same operations which are the subject of the litigation described in the immediately preceding paragraph. The relevant Department of State contract provides indemnification to DynCorp International LLC against third-party liabilities arising out of the contract, subject to available funding.On January 30, 2007, the Special Inspector General for Iraq Reconstruction (SIGIR) issued a report on Company contract number S-LMAQM-04-C-0030, Task Order 0338, concerning the Iraqi Police Training Program. Among other items, the report raises questions about the Company’s work under Task Order 0338 to establish a residential camp in Baghdad to house training personnel. Specifically, the SIGIR report recommends that the Director, Office of Acquisition Management, U.S. Department of State (“State Department”), seek reimbursement from the Company of $4.2 million paid by the State Department for work that the SIGIR maintains was not contractually authorized. In addition, the SIGIR report recommends that the State Department request the Defense Contract Audit Agency to review two Company invoices totaling $19.1 million. In management’s opinion and based on facts currently known, the above described matters raised in the SIGIR report will not have a material adverse effect on the Company’s consolidated financial condition, results of operations or liquidity.There have been no other material changes in legal proceedings from those provided in Part I, Item 3, “Legal Proceedings” in the Company’s Annual Report on Form 10-K for the fiscal year ended March 31, 2006, filed the SEC on June 29, 2006.“Risk Factors”"Risk Factors" in the Company’sCompany's Annual Report on Form 10-K for the fiscal year ended March 31, 2006,30, 2007, filed with the SEC on June 29, 2006.18, 2007.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDSNot applicable.None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERSThe following exhibits are filed as part of, or incorporated by reference into, this Quarterly Report onForm 10-Q.Exhibit
NumberDescription 3.1Amendment No. 5 to the Amended and Restated Limited Liability Company Operating Agreement of DIV Holding LLC(A)31.1*(A) Previously filed as an exhibit to DynCorp International Inc.’s Form 8-K, filed with the SEC on December 15, 2006 and incorporated herein by reference.35SIGNATURESregistrantRegistrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.DYNCORP INTERNATIONAL INC.
Date: February 12,August 7, 2007
/s/ MICHAEL J. THORNEName:Name: Michael J. Thorne Title:Title: Senior Vice President and Chief Financial Officer and Treasurer (principal financial officer andDuly Authorized Officer)36